What is government security?

In investing, “government security” refers to a government’s investment products. Most readers associate government securities with U.S. Treasury bonds, banknotes, and notes. However, many governments will issue these financial instruments to support continuing activities.

Government securities guarantee full principal repayment at maturity. Some government securities pay coupons or interest. Government-backed securities are considered conservative investments with minimal risk.

Understanding government security

Government securities are sovereign debt. Sales of these items subsidize government operations, unique infrastructure, and military programs. These investments operate like corporate debt. Corporations use bonds to raise funds for equipment purchases, growth, and debt repayment. When they need more money for a project, governments can issue debt instead of raising taxes or eliminating other spending.

Individual and institutional investors acquire government securities to retain until maturity or sell on the secondary bond market. Investors trade pre-issued bonds for various reasons. Investors may seek interest income from bond coupons or diversify their portfolio with risk-free assets. Due to the government’s ability to issue money upon maturity, these investments are risk-free.

Treasury bonds, banknotes, and notes are the most well-known government securities.

U.S. vs. Foreign Securities

However, the U.S. is not the only nation that issues government securities to support activities. U.S. Treasury bills, bonds, and notes are risk-free since the government backs them—many nations, including Italy, France, Germany, and Japan, issue government bonds.

However, foreign government securities may default, meaning they fail to repay the principal. A default may occur in the event of a government breakdown or instability. When buying foreign government assets, consider economic, country, and political risks.

Russia’s 1998 debt default illustrates such default risk. As the ruble depreciated, investors suffered shock losses. The Asian financial crisis of the same decade contributed to the decline. The Asian crisis sent shockwaves through the financial world as numerous Asian nations devalued their currencies.

While risk-free, U.S. government securities (treasuries) provide lower interest rates than corporate bonds. Interest rate risk occurs when fixed-rate government assets pay less than alternative securities in a rising-rate environment. The low return rate may also not keep pace with growing economic prices or inflation.

Buying government security

Institutional investors purchase and sell government securities from the Treasury Department through auctions. Retail investors can buy government securities from banks or brokers on the Treasury Department website. The U.S. government guarantees most government securities’ full faith and credit, making failure improbable.

Buying foreign government bonds (Yankee bonds) is more complex than buying American assets. Investors must engage with overseas brokers who may have qualifications. Investors may take on political, currency, credit, and default risks to increase returns. Some bonds need offshore accounts and significant minimum investments. Some foreign bonds are trash bonds owing to their buying risk.

Controlling Money Supply via Government Securities

The Fed sells government bonds to restrict money flow, among other programs. They lower the money supply and raise interest rates by selling bonds. The government can repurchase securities, impacting the money supply and interest rates. The Federal Reserve (Fed) uses open market operations (OMO) to acquire bonds, lowering their supply and price.

Bond yields fall when bond prices rise, lowering economic interest rates. Government bond issuance with lower yields significantly lowers interest rates. Thus, the Fed may influence interest rates and bond yields for years.

This purchasing and selling alters the money supply. Investors deposit Fed-repurchased Treasury bonds in their bank accounts or spend them elsewhere. Spending boosts retail sales and economic prosperity. Deposits allow banks to lend to companies and people, boosting the economy.

Pros

• Government securities can generate stable interest.
• Government securities are safe-haven investments due to minimal default risk.
• Government securities are tax-exempt in several states.
• Government securities trade readily.
• Mutual and exchange-traded funds provide government securities.

Cons

• Other securities provide higher returns than government securities.
• Government bond interest rates seldom match inflation.
• Risky foreign government securities
• In rising-rate markets, government securities pay less.

Government Securities Examples

Here are some popular government securities.

Savings Bonds

Over time, savings bonds have fixed interest rates. Investors who retain savings bonds until maturity get the face value and accumulated interest, depending on the set interest rate. Savings bonds are non-redeemable for the first year. A bond owner who redeems during the first five years loses months of interest.

T-Bills

T-Bills mature in 4, 8, 13, 26, and 52 weeks. Longer maturity lengths yield excellent interest rates on these short-term government securities. As of Sept. 10, 2021, the four-week T-bill yielded 0.06% and the one-year 0.08%.

Treasury Notes

Treasury notes (T-Notes) are intermediate-term bonds with two, three, five, or ten years of maturity. The $1,000 face-value notes pay a fixed-rate coupon or interest semiannually. Two- and three-year notes are $5,000.

T-note yields vary daily. On Sept. 10, 2021, the 10-year yield was 1.35%. The yield ranged from 0.07% to 0.08% over 52 weeks.

Treasury Bonds

Treasury bonds (T-Bonds) have maturities of 10–30 years. These $1,000 investments offer semiannual interest. These bonds cover federal budget imbalances. The Fed manages the money supply and interest rates by purchasing and selling this commodity.

Conclusion

• Government securities are debt issuances financing everyday operations, infrastructure, and military initiatives.
• They usually guarantee full principal repayment upon security maturity and pay coupon or interest payments.
• Government securities are risk-free because the government backs them.
• Buying risk-free assets means paying less interest than corporate bonds.
• Investors will retain government assets until maturity or sell them on the secondary bond market.