TLT Crushes BIL, ‘Risk-Free Rate of Return’

TLT’s one-year return doubles that of the T-bill proxy ETF.

TwitterTwitterTwitter
kent
|
Research Lead
|
Reviewed by: etf.com Staff
,
Edited by: Ron Day

What a difference a year has made in the fixed-income market. 

At this point last year, the Federal Reserve had not yet signaled it was ending the fastest rate hike campaign in history, part of its campaign to fight the worst inflation in four decades. 

With inflation still running hot, the bond market proxy, the iShares 20+ Year Treasury ETF (TLT), was still dropping like a rock and would eventually reach its bottom in October after falling 50% from its Aug. 2020 high. 

In the face of historic inflation and interest rates, why would have anyone invested in such a rate-sensitive ETF one year ago? The answer is price appreciation potential. 

Today, that potential is realized as TLT’s price is 10.8% higher than it was 12 months prior, rewarding risk-averse investors who bought shares of the long-term Treasury bond ETF last year. 

TLT vs BIL and the ‘Risk-Free Rate of Return’

A year ago, some investors and analysts opined that Treasury bills—often referred to as a benchmark for the “risk-free rate of return,”—were the smarter fixed-income security to park money while inflation was running hot. At the time, this was sound logic, as the rate, as measured by the SPDR Bloomberg 1-3 Month T-Bill ETF (BIL), was slightly above 5% then. 

In the investment community and corporate finance, the risk-free rate of return is the theoretical return on an investment with zero risk. In practice, it's often approximated by the yield on a U.S. T-bill, as these securities are considered to have minimal credit risk. 

The risk-free rate is also used as a benchmark to assess the expected return of riskier investments. The higher the expected return of an investment relative to the risk-free rate, the greater the risk premium associated with that investment. 

Thus, an investor buying shares of TLT this time last year may have chosen the long-term Treasury bond ETF as a means of beating the risk-free rate of return, as longer-term bonds are expected to have greater price appreciation in a falling-rate environment. But the rate sensitivity works both ways: if rates remain elevated or go higher along with hotter inflation, TLT and funds like it would have steeper declines. 

As of this week, TLT investors can say their willingness to take the interest rate risk paid off, as the fund’s 10.8% one-year return doubles that of BIL’s 5.4% performance

Kent Thune is Research Lead for etf.com, focusing on educational content, thought leadership, content management and search engine optimization. Before joining etf.com, he wrote for numerous investment websites, including Seeking Alpha and Kiplinger. 

 

Kent holds a Master of Business Administration (MBA) degree and is a practicing Certified Financial Planner (CFP®) with 25 years of experience managing investments, guiding clients through some of the worst economic and market environments in U.S. history. He has also served as an adjunct professor, teaching classes for The College of Charleston and Trident Technical College on the topics of retirement planning, business finance, and entrepreneurship. 

 

Kent founded a registered investment advisory firm in 2006 and is based in Hilton Head Island, SC, where he lives with his wife and two sons. Outside of work, Kent enjoys spending time with his family, playing guitar, and working on his philosophy book, which he plans to publish in the coming year.