A:

The yields on U.S. Treasury instruments, notably 10-year Treasury bonds, are considered to be an important measuring stick for market confidence and investor appetites. This is because government bonds carry almost zero risk to principle, so all other security investments are forced to add a risk premium to entice savers. When the yield on Treasury bonds moves, all other investments tend to move in kind.

Understanding Treasury Yields

As a debt instrument, a Treasury bond's yield has an inverse relationship with its price. When there is greater demand for bonds, the price is bid up and the return -- based on the coupon rate for Treasury bonds -- is relatively lower compared to the higher price.

Investors are most likely to demand low-risk Treasury bonds when times are uncertain. This is because they are protected against absolute market loss. This causes yields to drop, which is traditionally a sign of economic weakness, and it tends to lower the return that other security issuers offer.

Risk-Free Treasuries

Like all bonds, Treasury bonds promise the return of investor principle upon maturity. This guarantee is only as good as the creditworthiness of the issuer. Since the U.S. Treasury Department has a de facto printing press in the Federal Reserve, there is almost zero chance that the government will default on its debt obligations.

Treasury Bond Yields and Interest Rates

The interest rate offerings for all deposit accounts, loans and investments compete with the yield offered on Treasuries. To see how this works, consider a scenario where you have $10,000 to save. The present yield on a Treasury bond is 5% and the interest rate offered on a similar duration corporate bond (or CD, or expected return on an equity, etc.) is also 5%.

In this scenario, you should always choose the Treasury bond because it's safer. Other issuers know this, so they increase their return (or expected return) as a premium on the additional risk that investors have to assume to make a purchase.

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