10-year Treasury bonds at 12.75%
I heard 3-year T-bonds are fetching 11.4% and 5-year T-bonds at 12.14%. Not bad, right?
Just to give a brief background, Treasury bills, better known as T-bills, are certificates of indebtedness issued by the government. IOUs, in other words. They're called T-bills if they're less than a year to maturity. But if they're more than one year, they're called Treasury bonds, or T-bonds.
There are different kinds, such as Fixed Rate Treasury Notes or FXTN, and Retail Treasury Bonds or RTBs, which are available to retail investors like you and me.
What's attractive about government bonds is that they're practically risk-free. Why? Because the government is committed to pay of its obligation. In fact, it can print money if it has to. That's why T-bills are used as a benchmark for other investments.
I bought RTBs a few years ago with some four years into maturity. The rate was 14.25%. Very, very good.
Between putting your money into time deposits and T-bills, you're better off with T-bills.
And contrary to what most people think (including myself before), government bonds are liquid. You're not stuck with a 5-year FXTN for 5 years. You can liquidate it through the bank or securities dealer who sold it to you.
Now, are T-bills or T-bonds better than mutual funds? I did some number-crunching. Say 12% fixed rate for a government bond and an 8% average return for a bond mutual fund. In the mid term, 6 or 7 years, you'll make more in government bonds. In the long run, you'll earn more in a bond fund. The disparity increases the longer you hold on to the fund.
So, if you put in P100,000 in a 5-year 12% FXTN, you'll receive an interest of P12,000 a year (you'll get the interest every quarter). By year 5, you have earned P60,000 on your P100,000 investment, or 12% a year. Well, actually, you'll receive less than that, as there's a 20% withholding tax, so effectively you'll earn only 9.6%. But let's keep it simple.
Now, if you placed P100,000 in a bond fund, which averages 8% a year, by year 5, you would have earned some P54,000. Not bad. The difference is it's tax free. But there's a sales load for most mutual funds, usually 1.5%-2% on your investment, although that has a minor effect on your returns.
But if it were a 10-year investment, say, investing in a 10-year FXTN or in another 5-year FXTN versus holding on to the bond fund for 10 years, then you would have earned P120,000 on the FXTN but P136,000 on the bond fund, a P16,000 difference. Not much, but another 5 years and the difference balloons to P84,000!
Now, if we use the 9.6% effective return, in just 3 years, you're better off with a bond fund.
So why is that? Well, government bonds pay you straight interest. Bond funds compound, that is, the fund's earnings also make money. You make interest on the interest, to make it sound simple. So, the longer you hold on to your investment, the bigger the returns. That's the power of compounding.
Are government bonds then not a good investment. Not exactly. If you want guaranteed income, this is a good way to go. But if you're building wealth, you're better off with a bond fund.
