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Zero-Coupon Treasury Bond Funds

Zero-coupon Treasury bond funds invest in US government zero-coupon bonds. Zero-coupon bonds are much like US savings bonds. You buy them at a reduced price, or "discount." You earn no interest. But they are guaranteed to always mature at par value.

So as long as there are no major changes in the economic environment, their natural tendency is to gradually move higher and higher in price, as they accumulate the equivalent of accrued interest.

Plus, zero-coupon bonds have one additional important feature: As long as they are far away from maturity, they are traded actively and can fluctuate very significantly in market value. (As they approach maturity, the activity of trading and scope of the fluctuations tend to diminish.)

Undoubtedly, the fluctuations will be in both directions -- up and down. But, beyond the natural tendency to appreciate, there is one powerful force that we believe will tend to be positive:

A massive, worldwide flight to quality. When investors are frightened away from stocks or other investments, they almost invariably rush to US Treasuries -- short, medium and long term. This can help drive zero-coupon bond prices higher.

On the other hand, inflation fears can be a negative for bonds. But even in this case, the flight to quality will act as a strong buffer.


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