Understanding Treasuries Yield and Price

When I discussed the inverted yield curve and pointed out the discrepancy between the 10- and 2-year notes as shown in Figure 1.6, I wanted to further explain how these instruments work and the relationship to forex. Let's first define what a Treasury bond is and how it works and is priced out. U.S. Treasury bonds (T-bonds) are by all definitions a loan. Taxpayers are the lenders. The U.S. government is the borrower. The government needs money to operate and to fund the federal deficit, so it borrows money from the public by issuing bonds.

When a bond is issued, its price is known as its "face value." Once you buy it, the government promises to pay you back on a particular day that is known as the "maturity date." They issue that instrument at a predetermined rate of interest called the "coupon." For instance, you might buy a bond with a $1,000 face value, a 6 percent coupon, and a 10-year maturity. You would collect interest payments totaling $60 in each of those 10 years. When the decade was up, you'd get back your $1,000. If you buy a U.S. Treasury bond and hold it until maturity, you will know exactly how much you're going to get back. That's why bonds are also known as "fixed-income" investments; they guarantee you a continuous income and are backed by the U.S. government. There are also the concepts of yield and price. That is what confuses most investors. It is very simple: When yield goes up, price goes down; and vice versa.

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