This could be the ‘risk-free’ exposure your portfolio has been begging for

Whether you invest or not, nothing is truly risk-free, though some things come close. That said, government-issued bonds are considered the closest proxy, given their government backing and the very unlikely probability of the loss of your initial investment (if the government issuing is reputable, that is). 

It hardly needs mentioning that not all government-issued bonds are equal and without question, there’s a clear ranking for global government-issued bonds. But which economy boasts the gold standard?

Global institutions typically turn to US Treasuries for risk-free exposure and for a range of good reasons.

• The US still represents the largest global economy, with its currency representing the global reserve currency.
• US Treasuries represent a $US2.5 trillion market and are highly liquid.
• The probability of a default by the US government is deemed unlikely (though still possible as we’ve recently seen).

However, the appeal of US Treasuries in the current market is beyond its use as a ‘risk-free’ asset. It’s offering an attractive yield in the current market, meaning it’s a worthy contender for any portfolio to support income and growth needs. That's according to Russel Chesler, Head of Investments and Capital Markets for VanEck Australia.

“We’ve seen the yield on Treasury bills jump quite significantly and this has been in line with the rapid rate rises of the US Federal Reserve," he explained. 

"What we’ve seen happen over the year is now short-term rates offered on Treasury bills are actually higher than long-term rates. A lot of investors who lost money in 2022 in fixed rate bonds as interest rates rose have switched into Treasury bills,” Chesler added. 

In this edition of Expert Insights, Chesler explains how Treasury bills work, how investors can use them in their portfolios, and how you can gain exposure to this unique asset class that has traditionally been off-limits to Australian investors.

Edited transcript

What are Treasury bills and how do they work?

US Treasury bonds and treasury bills are fixed income securities that are issued by the US Department of Treasury, and they form part of securities issued by the US government.

They're a large market. The total size of the market is around US$22 trillion. Treasury bills alone, which have a maturity of less than one year or less, are US$2.5 trillion in size.

They're issued by the US government so many investors consider them to be virtually risk-free. If we look at institutional investors, they use the yield on treasury bonds as a proxy for the risk-free rate. They're used by a wide range of investors around the world. They're used by institutional investors, retail investors, and also by a large number of governments.

Why did you launch the VanEck 1-3 Month US Treasury Bond ETF (ASX: TBIL)?

We’ve seen the yield on Treasury bills jump quite significantly and this has been in line with the rapid rate rises of the US Federal Reserve. What we’ve seen happen over the year is now short-term rates offered on Treasury bills are actually higher than long-term rates. A lot of investors who lost money in 2022 in fixed rate bonds as interest rates rose have switched to Treasury bills.

If we look at our own ETF, TBIL, it's currently yielding around 5.2%. So quite a high yield, a lot higher than you might be able to earn in other places. As inflation continues to persist, we expect rates to remain at this level or even increase in time.

What are the opportunities and risks of investing in US Treasury Bills?

There are a number of opportunities.

Firstly, they are yielding more than Australian cash and Australian short-term bonds that can also be used as a risk management tool. When markets become volatile, investors gravitate towards safety and that safety is often Treasury bills because of their liquidity... And they are backed by the US Government.

If you have a particular view on the Australian dollar versus the US dollar, then that is another use for them.

If we look at the Australian dollar, it is known as a risk-on currency. When markets fall, the Australian dollar tends to fall as well. It can be used for that defence.

One of the most well-known investors in the world, Warren Buffett, invests in Treasury bills. Berkshire Hathaway has over US$100 billion in assets invested in Treasury bills because of their security.

There are two key risks.

First of all, Treasury bills are US-dollar denominated. As an Australian investor, it’s not hedged back to the Australian dollar. If the Australian dollar goes up against the US dollar, that’s going to be negative for you.

The other risk is - as with any bond - default risk. There’s the risk that the US Government defaults, though most investors view that as extremely unlikely.

How can investors use Treasury bills as part of their portfolio strategy?

If individual Australian investors agree with my view that the AUD against the USD is going to go sideways, or the AUD is going to depreciate, they could use it as an alternative to Australian cash or short-term investments. They’ll be getting a pick-up of around 1%.

The other way to use it is as a defensive asset.

If investors expect market volatility in these volatile times, what usually happens is the Australian dollar falls. That would mean you’re getting an increase in terms of the value of your T-Bills and gives you a positive return.