Treasury Note (T-Note)

A Treasury Note (often called a T-Note) is a type of loan you make to the U.S. federal government. Think of it as an IOU from Uncle Sam. Issued by the U.S. Department of the Treasury, these are medium-term government bonds with a maturity period ranging from two to ten years. In exchange for your loan, the government promises two things. First, it will pay you a fixed interest payment, known as the coupon rate, every six months until the note matures. Second, when the note reaches the end of its term, the government will pay you back the original amount you loaned, which is called the face value. Because T-Notes are backed by the “full faith and credit” of the U.S. government, the risk of default is considered virtually zero, making them one of the safest investments on the planet. This safety makes them a cornerstone of the global financial system and a key tool for conservative investors.

T-Notes are first sold to the public through auctions. After being issued, they can be bought and sold among investors on the secondary market, just like stocks. Their market price can fluctuate based on changes in prevailing interest rates. If new T-Notes are issued with a higher coupon rate, the value of existing, lower-coupon T-Notes will typically fall, and vice versa. Regardless of these price swings, if you hold the note until its maturity date, you are guaranteed to receive all the promised semi-annual interest payments plus the full face value at the end. This predictability is a key part of their appeal.

While value investing famously focuses on buying wonderful businesses at fair prices, government bonds like T-Notes play a surprisingly important—and strategic—role.

The interest rate, or yield, on the 10-year Treasury Note is arguably the most important number in finance. It's universally used as the proxy for the risk-free rate of return. Why does this matter? When a value investor performs a discounted cash flow (DCF) analysis to calculate a company's intrinsic value, they must have a baseline return to compare against. The T-Note yield provides that baseline. Any investment riskier than a T-Note (which is almost everything else) must offer a meaningfully higher expected return to be considered attractive. If a stock doesn't promise to beat the risk-free rate by a comfortable margin, a value investor will simply pass on it.

Legendary investor Warren Buffett has often held tens of billions of dollars in short-term U.S. Treasury securities within Berkshire Hathaway's portfolio. This isn't because he's a bond investor; it's because he's a patient equity investor. When he can't find businesses to buy at attractive prices, he doesn't force an investment. Instead, he “parks” his cash in safe, liquid securities like T-Notes and Treasury Bills. This strategy achieves two goals:

• It protects the principal from the volatility of the stock market.
• It earns a modest return, which is better than earning nothing on idle cash.

For the individual investor, T-Notes serve the same purpose: they are a safe harbor to store capital while you wait patiently for the perfect investment “fat pitch” to come along.

The U.S. Treasury issues three main types of debt. The primary difference is their lifespan. Think of them as runners in a race:

• Treasury Bills (T-Bills): The Sprinters. These are short-term securities with maturities from a few days up to 52 weeks. They are unique because they don't pay a coupon. Instead, they are sold at a discount to their face value. Your return is the difference between the purchase price and the face value you receive at maturity.
• Treasury Notes (T-Notes): The Middle-Distance Runners. As we've discussed, these have intermediate-term maturities of 2, 3, 5, 7, or 10 years. They pay interest to the investor every six months.
• Treasury Bonds (T-Bonds): The Marathoners. These are the long-haul investments, with maturities of 20 or 30 years. Like T-Notes, they pay interest semi-annually, but they lock in that interest rate for a much longer period.