Debt

Treasury Bonds: Superlow Yields (And Superhigh Prices)

The interest rate on two-year Treasury bonds hit an all-time low this morning — 0.47 percent. Yields on 10- and 30-year bonds are also superlow.

This means, of course, that investors are nervous about the state of the economy. They're buying bonds because they think stocks will do badly, and inflation and economic growth will be low.

All those bond buyers are driving prices up. In fact, the price of bonds is so high that some people are saying we're in the midst of a bubble. (Here's a counterargument.)

The very notion of a bubble in Treasuries is sort of surprising — this is supposed to be the safest investment in the world, not some kind of go-go speculative play.

The issue also raises one of those confusing things that always come up in financial news: Why do bond yields fall when prices rise?

Here's a quick, oversimplified explanation:

Imagine a bond that costs $100 and pays $5 a year in interest. Every year, you're getting interest payments equal to 5 percent of your purchase price. So the yield is 5 percent.

If bonds become more desirable, people will be willing to pay a higher price for that bond.

Say the next guy buys the bond for $200. It still only pays $5 interest per year. So every year, that guy gets interest payments equal to 2.5 percent of his purchase price. So for him, the yield is 2.5 percent.

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