All You Need to Know About Government Bonds

What are Government Bonds?

A bond is a form of investment in which an investor (either an individual or a business entity) loans a lump-sum, for a certain amount of time, at a set interest rate, to a government body or a business.

Government bonds are types of bonds issued by a national government, which are denominated in that country’s specific currency. Those bonds that are not issued in the underlying government’s currency are typically referred to as sovereign bonds.

When an individual investor or corporation invests in a government bond they are in essence, providing a loan to the issuing government body. The issuing agency takes the lump sum from the investor and uses towards the funding of public services or other expenditures. In turn, the investor is awarded a coupon, which will provide the investor with the full return of their investment plus added interest payments. As a result, the party that invests in the government bonds will obtain a fixed return on their investment that is tied into inflation and interest rates.

Government bonds are viewed as ultra-conservative investments. All government bonds are marketed and issued as risk-free financial instruments, because the governing body will typically guarantee the fulfillment of the loan obligation. Additionally, the government can also raise taxes to redeem the bond at maturity, which adds into the risk-free nature of the bond.

Types of Government Bonds

U.S Treasury Issues: These types of Government Bonds are the safest among all of the government-issued securities. As a result of the conservative nature, U.S. Treasury issues possess very low fixed rates, meaning the interest attached to the bond is extremely low. That being said, the income obtained from interest payments are tax free. These types of bonds include treasury bills (possess a 10 year maturity schedule starting from $1,000 to $1,000,000). The United States government no longer issues Treasury bonds; however, individuals can purchase these bonds in secondary markets.

Treasury notes possess a maturity schedule from 2 to 10 years and are valued at $1,000. These types of Government Bonds are awarded based on two bids: a competitive bid and a noncompetitive bid.

Treasury Inflation Protected Securities, also known as TIPS, are bonds sold at $1000 with a 5, 10, or 20-year maturity schedule. The principle attached to TIPS is adjusted twice per year to cancel out the effect of inflation on the return. Following the cancellation of inflation, a fixed rate of capital interest is calculated on the return. Treasury bills are cash management tools with maturity tenure of 2 to 26 weeks.

Agency Bonds: Agency bonds refer to bonds issued by agencies of the federal government. For example, the Government National Mortgage Association (also known as Ginnie Mae), the Federal National Mortgage Association (Fannie Mae), the Federal Home Mortgage Corporation (Freddie Mae), and the Student Loan Marketing Association (Sallie Mae) are all financial institutions of the Federal Government who issue bonds or loans to the general population.

NEXT: Bond Funds Explained