Last October, the yield on the 5-year government bond reached 3.683%, its highest value in the last 10 years. That is a good indication of why government bonds have emerged as one of the key assets for investors today.
Behind this success is not only profitability. Public debt in any of its variants offers a series of advantages, such as security or liquidity. Therefore, if you want to know more about these products and how to benefit from everything that surrounds it, you should read on.
What are government bonds?
Government bonds are debt securities issued by the Central Bank of each country, in the case of Spain it is articulated through the Public Treasury, which serve to finance the country that issues them. In exchange, however, the government of the day undertakes to return the money at the agreed time, in the agreed manner and with the agreed interest, in fact, for this reason it is also called fixed income, since the term and the yield are known in advance.
More specifically, government bonds refer to those debt securities that mature from 18 months to five years. On the other hand, debt with shorter maturities is known as treasury bills, and debt with longer maturities, which can extend up to 50 or 100 years, is called bonds.
The importance of bonds in an investment portfolio
The boom in demand for government bonds demonstrates that they have a vital role within any investor’s investment portfolio, as they provide a number of features such as:
- Continuous income generation: they provide a fixed amount in the form of coupon payments.
- Capital preservation: as a country-backed asset, they are usually very safe and therefore a good alternative to preserve capital.
- Diversification: fixed income and equities tend to have an inverse relationship, meaning that when the equity market goes down, bonds become more attractive.
Yield on 5-year government bonds
Within the different government bond options, an ideal term for investors is typically five years, as it is a long enough term to put our money in and obtain a continuous flow of income, but not so long as to fear that we will need it at any given time.
In this case, the yield on 5-year government bonds in Spain has partly followed the evolution of other maturities. This means that for years it hardly offered any yield, and was even negative, while today it has reached 10-year highs.
Evolution of the yield on the 5-year bond:
5-year government bond yields vs. other maturities
One of the characteristics that make these bonds attractive is that, being long-term, they usually provide a higher yield than, for example, Treasury bills.
Thus, for example, if we take the yield of 5-year government bonds obtained on average in 2023 and compare it with what 12-month bills paid, we can see this distinction: specifically, while the former offered 3.14%, the latter barely reached 1.5% on average. In other words, investing in 5-year government bonds not only yielded twice as much as investing in bills, but also allowed us to maintain our purchasing power in the face of inflation, which was 3%.
Understanding government bond yields
Although the above figures seem conclusive, in reality, they only tell part of the story. Specifically, that of 2023. Thus, if we take the data so far in 2024 the story is different, as the bills have paid on average 3.51%, while the five-year bond has paid 2.83%. The reason for these changes lies in the monetary policies implemented by the European Central Bank (ECB).
The key lies in the fact that it is the ECB that sets the price of money through interest rates. Thus, the higher the value of money, the more savers ask for more interest for lending their money, forcing interest rates on public debt to be higher. After all, it is no coincidence that there has been a sharp rise in interest rates in recent years and bond yields have also risen.
A final component of government bond yields has to do with fiscal policy, i.e., the choices between spending and revenue in a state. It should be understood that as the gap between the two becomes larger, the country is at risk of bankruptcy and that makes bonds more risky. The higher the risk, the higher interest rates countries must offer to attract investors and compensate for that risk.
The effect of inflation
The last key element is inflation. The ECB raises rates to cool the economy and reduce inflation, which is the increase in prices. At the end of the day, if loans are more expensive and you get paid more to keep your money locked up, in the end, what you are doing is that people prefer to spend less, save more and take on less debt. That causes growth to be lower and thus cooling prices.
Roboadvisors to select government bonds
As you have been able to see, choosing some bonds or others, even other types of public debt, is not an easy task. And it is convenient to have solid financial and economic knowledge to be able to select those that offer a higher profitability at this moment. However, this is not always necessary, since there are tools that help us to decide which type of bonds are the most suitable for us. These tools are roboadvisors.
Roboadvisors are a tool that invests your savings for you, although it does so according to your preferences, your fear of risk and with the advice of a committee of experts. That, in itself, already makes it a good alternative to invest your savings, but it also has other advantages such as reduced commissions, great transparency and it requires a reduced minimum capital.
inbestMe, the perfect fixed income platform
Among the roboadvisors on the market for investing in fixed income, inbestMe stands out both because it is a platform with a great deal of experience, having been operating for more than five years, and because of its low commissions and wide range of products.
Also, the firm has a cutting-edge advisory system and several recognition processes to find the best possible portfolios for each user according to their needs and risk aversion. In short, if you are interested in the high profitability and the rest of the features offered by five-year bonds or any other debt asset, enter inbestMe, in its fixed income section, and start growing your assets with all the guarantees and in a simple way.
