Government securities outline
| Bonds | Issued by | Federally taxable | State taxable |
| GNMA | government agency | Federally taxable | State taxable |
| FNMA | government agency | Federally taxable | State taxable |
| SALMAE | government agency | Federally taxable | State taxable |
| Public Housing | state | no | exempt from state&local in most states |
| Farm Credit | government agency | Federally taxable | no |
| Government bonds | federal government | Federally taxable | no |
| Municipal bonds | state&local | no | only nonresidents are taxed in most states |
Non guaranteed debt
·
Federal Housing Administration (FHA): FHA
guaranteed, not guaranteed by U.S. government
·
Federal Home Loan Banks (FHLB): issues debt
securities to provide $ to savings and loans who loan to home buyers, small business,
rural development, and agriculture
·
Federal National Mortgage Association (FNMA):
started as government sponsored, is a private corporation on NYSE
·
FNMA issues bonds to finance Department of
Veteran’s Affairs, FHA, and conventional mortgage loans
·
FNMA is called Fannie Mae
·
Federal Home Loan Mortgage Corporation (FHLMC)
aka Freddie Mac, stockholder corporation-lends to mortgage lenders. Corporation
that buys mortgages that collateralize mortgage backed securities
·
Federal Land Banks, issue farm loans mainly long
term loans
·
Bank for Cooperatives, issue loans to farmer’s
cooperatives
·
Federal Intermediate Credit, banks issue short
term farm loans
·
Farm credit system aka Federal Farm Credit
Consolidated System-Wide Bank
·
Farm Credit system: Federal Land Bank, Bank for
Cooperatives, and Federal Intermediate Credit Bank issue a)equities for their
expansion and use, b)not backed by the government though the government did
intervene with savings and loans in 1980s, c)issue mortgage securities and
discount notes and bonds for farm loans that are an obligation of all member
banks in the Farm Credit System but are backed by mortgages on the farms and
ranches
·
Student Loan Marketing Association (SLMA) aka
Sallie Mae generates debt securities to fund SLMA loans to students for higher
education, now a private corporation, trades on NYSE, issues discount notes,
long term bonds, zero coupon bonds
Which of the following are true of debt securities issued by
the Farm Credit System Bank? Proceeds of the issues are used for farm-related
loans, discount notes and bonds are issued, interest payments to bondholders
are exempt from state and local taxes. Pays federal taxes.
Financial risk
·
U.S. government securities have a high credit
rating-low chance for default of interest and principal
·
High credit rating, Government bonds are sold at
lower interest rates
·
Corporate bonds, sold at higher interest rates,
lower credit rating?
·
Government bonds-“risk free rate of return”
safest investment in the world
·
Government bonds-not subject to financial
risk-risk of loss of principal
·
Government bonds are subject to market risk-risk
of variability in the number of available buyers
·
Government long term marketable &
non-marketable debt-subject to purchasing power risk because of long time to
maturity
·
Purchasing
power risk-inflation-if goods cost more in future, today’s dollars purchase
less
Obligations
·
Marketable debt, issue may be traded in the open
market. T-bills, T-notes, T-bonds
·
Non marketable debt, only bought or redeemed from
U.S. government
Marketable debt securities
·
First sold at auction
·
Auctions allows noncompetitive and competitive
bids submitted
·
Department of Treasury (DOT) sets minimum amount
of bid @$1,000,000, unlimited maximum amount of bid can be bid
·
DOT, works with Bureau of Public Debt and the
issuer of government issues
·
Certain banks and broker/dealers are invited by
DOT to be primary dealers in entering competitive bids
·
Bids must be in early on morning of auction
·
DOT awards bills, notes, bonds on all bids with
the lowest interest rates under total amount of offering
·
DOT establishes %age of issue taken by
competitive bidders, sets yield and price
·
Single priced auction, all bidders receive
securities at the same price
·
Noncompetitive bidders: individuals, foreign
investors, broker/dealers, institutional investors-not primary dealers
Which of the following is a risk of Treasury bonds?
·
They have purchasing power risk.
·
Risk that investment of $10,000 today will not
be worth same in 10-30 years
·
Government is the safest investment-no risk of
default of principal or interest
·
Interest payments and principal payments will be
paid when due
·
All debt securities have market risk-interest
rates interest increase and decreases, market reacts inversely to interest rate
changes
Bond quotes
·
Government long term marketable &
non-marketable debt-subject to purchasing power risk because of long time to
maturity
·
Purchasing
power risk-inflation-if goods cost more in future, today’s dollars purchase
less
Obligations
·
Marketable debt, issue may be traded in the open
market. T-bills, T-notes, T-bonds
·
Non marketable debt, only bought or redeemed from
U.S. government
Marketable debt securities
·
First sold at auction
·
Auctions allows noncompetitive and competitive
bids submitted
·
Department of Treasury (DOT) sets minimum amount
of bid @$1,000,000, unlimited maximum amount of bid can be bid
·
DOT, works with Bureau of Public Debt and the
issuer of government issues
·
Certain banks and broker/dealers are invited by
DOT to be primary dealers in entering competitive bids
·
Bids must be in early on morning of auction
·
DOT awards bills, notes, bonds on all bids with
the lowest interest rates under total amount of offering
·
DOT establishes %age of issue taken by
competitive bidders, sets yield and price
·
Single priced auction, all bidders receive
securities at the same price
·
Noncompetitive bidders: individuals, foreign
investors, broker/dealers, institutional investors-not primary dealers
Which of the following is a risk of Treasury bonds?
·
They have purchasing power risk.
·
Risk that investment of $10,000 today will not
be worth same in 10-30 years
·
Government is the safest investment-no risk of
default of principal or interest
·
Interest payments and principal payments will be
paid when due
·
All debt securities have market risk-interest
rates interest increase and decreases, market reacts inversely to interest rate
changes
Bond quotes
- as price goes up, yield goes down
- as price goes down, yield goes up
- government bonds are purchased directly from Broker/dealer(B/D)
- bid price: price B/D purchases government bonds from client
- ask/offer price: price at which B/D firm sells to another customer
- bid: you want to sell to highest bidder
- ask: how much is seller asking. When you buy, you pay asking price
- government bonds, notes trade in 1/32 of a point
- t-bills trade in basis points
- a bond that is quoted at 96.12-96.20 would have a bid price of 96 and 12/32 and an offer price of 96 and 20/32. Bid at 9612/32% of par and ask at 96 20/32% of par. Bid at 96.375% of par and offer at 96.625% of par. $963.75 bid, $966.25 offered.
- What is the price of a government bond priced at 107.3? $1070.94. 3/22=.09375 or .094.
- exempt from state and local taxes: Farm Credit System: FICB, Land Bank, Bank for Co-ops,debt securities by Federal Home Loan Bank
- buyer must pay seller amount of accrued interest for the time from last interest payment up to but not including the settlement day
- Treasury bond or note, pay next settlement day
- Treasury bond or note trade Friday, settlement day Monday (3 days)
- gov securities: 365 day year
- T-bills: 360 day year
- accrued interest: settlement date-last interest date=number of months and days of accrued interest
- assume each month has 30 days, add +1 for every month with 31 days, -2 if February is in interest period-has 28 days.
- What is the amount of accrued interest payable to seller with an 8% bonds, 10 bonds worth with a time period of 102 days? 10 bonds x 1,000/bond x 8% coupon x (102 day period/365) =$223.56 in accrued interest payable to the seller
- An investor buys a 9% government bond that pays interest on March/Sept 15. If the investor purchased the bond on Friday, July 24, for how man days of accrued interest will the investor have to pay?
Government money market instruments
- debt securities that mature in 1 year or less
- high-grade, low risk
- short term securities bought for short term money use
- T-bills
- Federal funds
- $ deposited at Federal Reserve Bank
- noncompetitive purchasers-funds are deposited by individuals buying U.S. securities at auction
- primary dealers-banks, broker/dealers
- broker dealers when clearing trades in U.S. gov securities
- only trades in U.S. gov. securities clear through Fed Reserve in fed funds NOT municipals/corporate-clearing houses
- banks with funds>reserve requirement as mandated, lend to other banks
- overnight federal funds-short term, safe, don't change hands, book-entry
- rate a bank charges for use of its extra federal funds
- overnight rate from one bank to another
- most volatile (changing) interest rate
- interest rate changes daily directed by Federal Reserve Board (FRB) through open market operations-Federal Open Market Committee (FOMC)
- determined by noon Pacific Time or by latest 2pm each day
- commercial paper
- banker's acceptances
- project notes
- call loans, finance margin purchases
- commercial banks lend funds to customer's, underlying stock is collateral
- held in street name, stock has to be registered in name of brokerage firm
- registered owner, firm is listed
- beneficial owner, customer is listed
- call rate, interest rate that bank charges broker/dealer for borrowing $
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