Understanding U.S. Treasury Yields: A Practical Guide for Korean Investors

As global economic uncertainties increase, many investors are considering reallocating their portfolios into safe assets. In this process, U.S. Treasury bonds are gaining attention as debt instruments guaranteed by the government of the world’s largest economy. Despite their low coupon rates, U.S. Treasuries offer excellent liquidity and creditworthiness, providing opportunities for regular cash flow and principal protection. This article comprehensively covers everything from basic knowledge of U.S. Treasuries to practical investment strategies for Korean investors.

Basic Mechanisms of Bond Investment

Bonds are essentially contracts between a lender and a borrower. The borrower promises to repay the principal(face value) at maturity, and in return, typically pays interest every six months or annually.

The government operates on the same principle. When the funds needed for national operations are not covered by tax revenues, it issues Treasury bonds to raise funds from institutions or individuals. The interest paid on these bonds becomes the investor’s return.

Currently, the most actively traded product in the global bond market is the 10-year U.S. Treasury note. It is mainly traded by institutional investors with long-term investment goals and serves as a benchmark for global interest rates.

Classification System of U.S. Treasuries

U.S. Treasury securities are categorized into three types based on maturity.

Short-term securities(T-bill): Maturing in less than one year, these have the highest credit rating and liquidity, allowing for quick cash conversion.

Medium-term securities(T-note): Maturing between 1 and 10 years.

Long-term securities(T-bond): Maturing between 10 and 30 years, offering fixed coupon interest rates.

During economic downturns, these bonds serve as defensive assets in diversified portfolios. Notably, the yield on the 10-year U.S. Treasury note is used as an indicator of the overall health of the global economy.

Dynamics of Interest Rates and Yields

In the bond market, “yield(yield)” refers to the expected return relative to the purchase price. It differs from the fixed rate at issuance.

In the secondary market, bond prices fluctuate in real-time based on demand. When demand for Treasuries increases, prices rise and yields fall. Conversely, when demand decreases, prices fall and yields rise. Therefore, bond prices and yields always move inversely.

This relationship reflects investor sentiment. During economic downturns, safe-haven demand increases, causing Treasury yields to decline. Conversely, during economic recovery, funds shift to riskier assets, pushing yields higher.

Under normal market conditions, longer maturities entail greater uncertainty, so long-term yields should be higher than short-term yields. However, during recession fears, demand for long-term bonds can surge, leading to a decline in long-term yields.

Key Advantages of Investing in U.S. Treasuries

1. Top-tier Creditworthiness

The U.S. government guarantees principal and interest repayment, virtually eliminating default risk. Even during global financial crises, Treasuries have served as the safest haven assets.

2. Stable Cash Flows

The fixed coupon rate at issuance remains unchanged, with payments typically made( semiannually). Ideal for retirees seeking stable income.

3. High Liquidity

U.S. Treasuries are the most traded securities in the secondary market. If funds are needed before maturity, they can be sold quickly. This liquidity facilitates portfolio rebalancing.

4. Tax Advantages

Interest income from U.S. Treasuries is subject to federal income tax but exempt from state( and local taxes. This improves after-tax returns.

Main Risks of U.S. Treasury Investment

) 1. Interest Rate Risk

When interest rates rise, new bonds are issued at higher yields, making existing bonds with lower yields less attractive. If you sell before maturity, you may incur losses.

2. Inflation Risk

If fixed coupon payments do not keep pace with inflation, real purchasing power erodes. Treasury Inflation-Protected Securities (TIPS) are designed to mitigate this risk, but regular Treasuries are not.

3. Currency Risk

Particularly relevant for Korean investors. If the USD weakens, the value of principal and interest in KRW terms decreases.

( 4. Credit Risk

The theoretical possibility that the U.S. government defaults on its debt obligations. Considering the high credit rating of the U.S., this risk is very low.

Comparison of Investment Methods

Korean investors can invest in U.S. Treasuries mainly through three methods.

) Method 1: Direct Purchase

Channels for individual investors: Buying directly from the U.S. Treasury via TreasuryDirect or through securities firms in the secondary market.

Advantages:

• No intermediary fees
• Ownership of individual bonds until maturity ensures regular interest and full principal repayment
• Full control over the investment portfolio

Disadvantages:

• TreasuryDirect personal limit is up to $10,000
• Requires substantial capital and management effort for diversification
• Selling before maturity during rising interest rates may require selling at a discount

Suitable for: Conservative investors seeking stable income with long-term holding, retirees needing regular cash flow

Method 2: Bond Funds

Mutual funds managed by professional fund managers that hold a diversified portfolio of U.S. bonds, including Treasuries.

Advantages:

• Diversification reduces risk of individual bonds
• Active management adjusts the portfolio according to market conditions
• Access to various bonds with a smaller initial investment

Disadvantages:

• Management fees reduce net returns
• No direct control over individual bonds within the fund

Suitable for: Investors preferring professional management, diversification, and seeking stable long-term returns with risk mitigation

Method 3: Bond Index Funds###ETF###

Exchange-traded funds designed to track specific bond indices, e.g., U.S. Treasury bond indices.

Advantages:

• Passive management results in significantly lower management fees compared to active funds
• Can be traded on stock exchanges in real-time, offering high liquidity
• Transparent and closely follows the index

Disadvantages:

• Price volatility influenced by stock market fluctuations, despite the underlying bonds’ stability
• Slight deviations from the index due to management and trading costs
• As passive funds, they do not provide active positioning benefits

Suitable for: Investors seeking low-cost, index-tracking exposure, and those trusting market efficiency

Portfolio Optimization Strategies for Korean Investors

Importance of Regional Diversification

Combining Korean and U.S. Treasuries in a portfolio offers multi-layered risk mitigation.

Reducing risk through multi-national exposure: Since economic cycles of Korea and the U.S. do not always align, when Korea’s economy weakens, U.S. bonds may generate returns, or vice versa.

Currency diversification effect: Holding assets denominated in KRW( and USD) simultaneously partially offsets exchange rate risks.

( Maximizing Returns

Strategically utilizing yield curves of both countries can enhance overall portfolio returns. For example, if Korean Treasuries offer higher yields at the same maturity, maintaining U.S. Treasuries as a safe base while increasing Korean bond holdings can improve returns.

During periods of widening interest rate differentials, arbitrage opportunities arise. Carry trade strategies—borrowing in low-interest-rate currencies and investing in high-interest-rate currencies—can be considered.

) Managing Exchange Rate Risk

Exchange rate fluctuations significantly impact the returns of U.S. Treasury investments for Korean investors. Variations in USD/KRW can cause substantial changes in KRW-denominated returns.

Hedging strategies: Using derivatives like forward contracts to lock in exchange rates. However, hedging involves costs, which can reduce net returns.

Partial hedging: Hedging only a portion of the U.S. Treasury holdings while leaving some exposure can balance risk and potential gains.

Duration Adjustment

Duration measures a bond’s sensitivity to interest rate changes. When constructing a portfolio, consider the durations of both U.S. and Korean Treasuries.

If capital preservation is the priority, focus on long-term U.S. Treasuries for stable, predictable income. To reduce interest rate sensitivity, include short-term bonds.

( Tax Considerations

Interest income from U.S. Treasuries is taxable at the federal level and may also be subject to Korean financial income tax. Fortunately, the U.S.-Korea Double Taxation Agreement (DTA) prevents double taxation on the same income.

Investors should consult with tax professionals to develop optimal tax strategies based on their specific circumstances.

Case Study: Actual Portfolio Example

Suppose a balanced portfolio consists of 50% Korean Treasuries and 50% U.S. Treasuries. This setup aims to achieve principal protection and generate regular cash flows.

Risks: Reduces dependence on a single economy, lowering overall volatility.

Currency risk: Since the portfolio value is affected by exchange rate movements, hedging the USD portion can stabilize returns.

Practical outcome: When the USD is strong, unhedged U.S. bonds increase in KRW terms. Conversely, during USD weakness, hedged U.S. bonds help prevent losses.

Conclusion

To reliably secure yields from U.S. Treasuries, investors must understand and manage various risks such as interest rate, inflation, and exchange rate risks.

For Korean investors, combining U.S. and Korean Treasuries can provide diversification benefits and income stability.

Various purchasing methods—direct purchase, bond funds, ETFs—offer flexibility. Choosing the right approach depends on individual investment goals, risk appetite, and capital size. By understanding each method’s pros and cons and making careful decisions, U.S. Treasuries can become a core component of long-term asset management.