1. Home
  2. News & Issues
  3. US Economy

Treasury Note & Bond Yields Definitions and Forecast

By Kimberly Amadeo, About.com

What Treasury Note and Bond Yields Measure: Treasury note and bond yields are a common term used to describe the total amount of money you make on U.S. Treasury note or bond. These notes and bonds are sold by the U.S. Treasury Department to pay for the U.S. debt.

Treasury notes are issued in terms of 2, 3, 5, and 10 years, while Treasury bonds are issued in terms of 30 years. Treasury bills are issued in terms of one year or less. However, many people just refer to all of them as Treasury bonds, Treasury products or even just Treasuries. The most popular Treasury product is the 10 year note.

Treasury notes and bonds are sold at auction by the Treasury Department, which sets a fixed face value and interest rate. If there is a lot of demand for the note or bond, it will go to the highest bidder at a price above the face value. This decreases the yield, because the government will only pay back the face value plus the stated interest rate. If, on the other hand, there is not a lot of demand, then the bidders will pay less than the face value, which will increase the yield. That is why yields always move in the opposite direction of Treasury bond prices.
Treasury note and bond yields change every day, because hardly anyone keeps them for the full term. Instead, they are resold on the open market. Therefore, if you hear that “bond prices dropped”, then you know there is not a lot of demand for Treasury notes and bonds, and that the yields increased.
How Treasury Note and Bond Yields Affect the U.S. Economy: As Treasury note and bond yields increase, so do the interest rates on fixed-rate mortgages. This makes it more expensive to buy a home, so demand for homes decrease, and therefore so do the prices of homes. This, then, has a negative impact on the economy, and can slow GDP growth.
Higher Treasury note and bond yields mean that the Treasury Department will be forced to pay a higher interest rate to attract buyers. Over time, these higher rates can start to increase demand for Treasury notes and bonds, thereby increasing the value of the dollar.

On the other hand, the high level of the U.S. debt has started to worry investors, and they begin to purchase less Treasury note and bonds, even at higher interest rates. If this were to happen, it would have a negative effect on the U.S. economy.

How Treasury Note and Bond Yields Affect You: The most direct way that Treasury bond yields affect you is in their impact on fixed-rate mortgages. High demand for Treasury notes and bonds means low yields, which means low interest rates. This makes housing more affordable, which stimulates the housing market and, hence,the economy.

Conversely, higher note and bond yields mean higher mortgage interest rates, which means you have to buy a smaller, less expensive home. This slows down the economy.

Recent Treasury Note and Bond Yields Trends: Usually, the longer the time frame on a Treasury product, the higher the yield. This is because investors want a higher return for allowing their money to be tied up for a longer period of time. This is known as the yield curve.

For example, on January 3, 2002, the yield curve was:

  • 1.73% for the 3-month Treasury bill,
  • 2.24% for the 1-year Treasury note,
  • 4.48% for the 5-year Treasury note,
  • 5.16% for the 10-year Treasury note, and
  • 5.54% for the 30-year Treasury bond.

However, in January 2006, the yield curve started to flatten. This means that investors did not require a higher yield for longer term notes. On January 3, 2006 the yield on the10-year note was 4.37%, virtually the same as the yield of 4.38% on the 1-year note. When this happens, it is known as an inverted yield curve. This can often forecast a recession, as it did in April 2000. That’s because investors believe that the economy is going into a slump in the next year or so, and they would rather keep the longer 10-year note than buy and sell the shorter 1-year note, which may do worse next year when the note is up.

However, that may not be the case this time, because the yields on the long-term notes are still very low -- less than 5%. This means that mortgage interest rates are still historically low, and that there is plenty of liquidity in the economy to finance housing, investment and new businesses. While short-term rates have increased in the last two years, thanks to the Federal Reserve rate hikes, this has primarily affected adjustable rate mortgages. Long-term Treasury note yields have stayed at around 4.5%, keeping fixed-rate mortgage interest rates stable at around 6.5%.
In fact, many homeowners are switching from adjustable-rate to fixed-rate mortgages. Instead of a recession, the economy continues to grow at a healthy 2-3% GDP.

Treasury Note and Bond Yields Outlook:

Most economists agree that Treasury bond yields will gradually increase over the next 20 years. Treasury yields are low because foreign investors, notably Japan, China and oil-producing countries, need dollars to keep their economies functioning. The best way to collect dollars is by buying Treasury bonds. The popularity of Treasury bonds have kept yields below 6% for the last five years.

However, several factors will make Treasury bonds less popular over the next 20 years.

  • The U.S. is running an almost $1 trillion current account deficit. Furthermore, government sources predict a $11 trillion U.S. debt by 2011. Foreign investors may wonder if the U.S. will be able to repay them.
  • One way the U.S. can reduce its debt is by letting the value of the dollar decline. When the foreign governments demand repayment of the face value of the Treasury bond, it will be worth less in their own currency, since the dollar's value will be less.
  • The factors that caused China, Japan and oil-producing countries to buy Treasury bonds are changing. As their economies become stronger, they will use their current account surpluses to invest in their own countries infrastructure. They will no longer need the safety of U.S. Treasuries, and will start to diversify away.
  • Finally, part of the attraction of U.S. Treasuries is that they are denominated in dollars, which have become a global currency. All oil must be sold in dollars. Most global financial transactions are done in dollars. As other currencies, such as the euro, become more popular, more transactions will be done in euros, lessening the value of the dollar, and of U.S. Treasuries.

Explore US Economy

More from About.com

  1. Home
  2. News & Issues
  3. US Economy
  4. Trends and Indicators
  5. Treasury Note and Bond Yields Definitions - Treasury Note and Bond Yields Forecast

©2008 About.com, a part of The New York Times Company.

All rights reserved.