When the U.S. government needs to raise money to fund projects, it may decide to sell securities. Government-backed securities are considered by many to be safe investments because the federal government guarantees the investment. The U.S. Treasury issues notes, bonds and bills; the time between the sale of the security to its maturity date determines which term is used for the instrument. Although it is not quite as easy to short sell treasuries as it is to short sell stocks, it is possible to do so.
Reasons to Short Sell
The value of the bonds you own will increase when interest rates drop. Conversely, if interest rates rise, the value of your bonds will fall. Existing bonds are tied to interest rates because new bonds may have a higher interest rate, making your bonds less attractive to potential buyers. Therefore, some investors short sell treasuries if they expect interest rates to increase. Similarly, if the inflation rate increases, interest on existing bonds may not be sufficient to keep pace with inflation.
How to Short Sell
To short sell an equity security, such as a stock, you normally need to do little more than call your broker. The process to short sell debt securities is more complex. You can't short an individual Treasury bond. You can, however, go through a broker who handles exchange-traded funds, or ETFs, which consist of assets whose values move with the securities backing them. You can short sell a bond ETF or, in some cases, purchase a put option to limit your losses. There are also ETFs that specifically short sell Treasuries. Not all brokers offer ETFs, however.
Futures and Put Bonds
You might also consider bond futures. If you enter into a contract to sell short, you are agreeing to furnish the bonds to the buyer at the price and on the date stated in the contract. With futures, you are not selling securities you already own. Instead, you are gambling that the price will fall before the exercise date. Should the value of the bonds rise, however, you might experience significant financial loss. Certain bonds can be bought that include a put option and are called put bonds. The option allows you to force the seller to buy back the bonds prior to maturity.
The Fear Factor
Uncertainty over whether the rate of inflation will increase can cause some investors to begin short selling treasuries. Inflation can increase when the government prints more money to prop up the value of the dollar. Foreign nations, many of which hold significant amounts of U.S. treasuries, may feel uneasy about the strength of the U.S. currency and begin unloading their holdings. All of these situations can have a significant impact on the price of treasuries. Some investors monitor such fears and uncertainties to help them decide when or if to short sell treasuries.
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