Understanding the TSP’s G Fund

If inflation takes off substantially in the future, will money you have invested in the G fund earn a higher interest rate?

Understanding the TSP's G Fund

We get a number of questions at FedSmith.com from readers and many of these questions are on the federal government’s Thrift Savings Plan.

While we do not provide advice to individuals on how to invest their money, some of the questions we receive are likely to be of interest to a number of readers. And, while we often focus on short term results or long term trends for the stock market, some of the questions ask for information that all investors in the Thrift Savings Plan (TSP) should know. The reality is that many people investing in the TSP have not taken the time to read through mind-numbing pages of financial information.

Understanding the G Fund

One reader asked this question about the G fund: “If inflation takes off substantially in the future, will funds invested now reflect future returns with the increased interest rate that may occur relating to this inflation.”

The answer is generally “yes.” The money you have invested in the G fund over time will earn the interest rate that is paid in the current month. But don’t confuse the rate that is paid in the G fund with a cost of living adjustment or other adjustments that may be related to a consumer price index.

According to the Thrift Savings Plan folks: “G Fund securities earn a statutory interest rate equal to the average market yield on out-standing marketable U.S. Treasury securities with 4 or more years to maturity.”

The interest paid by the G fund interest is computed monthly. That is good news for those who invest in the TSP’s G fund because, when inflation kicks in, you will earn a higher interest rate on your investment when the interest rate paid on longer term Treasury securities goes higher.

For example, in January 2010, the interest rate on the G fund reflected an annual percentage rate of 3.50%. That is the highest rate that has been paid since November of 2008 when it paid 3.75%. Back in January of 2009, the interest rate on the G fund was only 2.13%.

Long-Term Rates and Short-Term Security

The way the interest rate is calculated on the G Fund, along with the Board’s policy of investing exclusively in short-term maturities, gives TSP investors the advantage long-term rates paid on Treasury notes for short-term securities.

In plain English, this means that you get a very good deal that the rest of America’s investors do not get.

Short-term notes are safer. No one knows what interest rates will be in 10 years or even in three months.The interest rates on Treasury notes for a 10 year note are usually higher than for a short term note. (The G Fund rate is also used in other Government programs, such as the Social Security and Medicare trust funds and the Civil Service Retirement and Disability Fund.)

In effect, with the G fund you get a higher interest rate on your money and you are also investing in a very safe fund.

When you look at the average annual returns for the G fund, you will see that there are years in which investors made as much as 8.9% (1990) on this very safe investment because interest rates being paid on Treasury bills were higher due to inflation. That will happen again if interest rates on Treasury bills go up.

No doubt, the safety of the G fund is why so many TSP investors invest a considerable portion of their assets in this fund. For example, at the end of December 2009, those in the CSRS fund had 53% of their TSP accounts in the G fund. Those in the FERS system had 44% of their investment in the G fund.

In general, TSP investors under the CSRS system are older and are often retired or nearing retirement. They are opting to put more of their money into the safety of the G fund to preserve their assets. Younger investors, with a longer time before they retire, put more of their money into stock funds in hopes of achieving a higher rate of return for their future retirement.

So, while some analysts predict that the United States will see high inflation as a result of substantial borrowing and printing of money by the government, those with their investments in the G fund will see higher returns as the interest being paid on longer-term Treasury bills goes up.

About the Author

Ralph Smith has several decades of experience working with federal human resources issues. He has written extensively on a full range of human resources topics in books and newsletters and is a co-founder of two companies and several newsletters on federal human resources. Follow Ralph on Twitter: @RalphSmith47