Government securities outline

Government securities outline

• U.S. government securities: U.S. government issues bonds to get $ for day-to-day operations of the federal government as well as past debts
• considered safe, stable, easy to sell
• only issued in book entry form
• buyer receives conformation from government or broker/dealer (B/D)
• discontinued: certificate form

bills

·         maturity less < 1 year

·         sold as 4,13,26,52 week maturity instruments

·         1 mo, 3 mo, 6mo, 1 year bills

·         Do not exist: 9 mo bills

·         Department of the treasury (DOT) sells treasury bills under direction of the Federal Open Market Committee (FOMC)

·         FOMC run by members of Federal Reserve Board (FRB)

·         T-bills are sold at a discounted purchase price=yield to investor

·         Buy at discount, mature at face value

·         FOMC tells DOT amount to issue @ maturity dates and sets a max interest rate for auction

·         Sold at auction on Mondays and Tuesdays

·         Paid for on following Thursday

·         Competitive bidders who submitted lowest bids get their bills at the highest bid

·         Noncompetitive buyers receive their T-bills at the highest yield same as competitive bidders

·         Discount depends on length of time before maturity and %age yield at which t-bill purchased

·         Purchased by banks, financial institutions, mutual funds, broker/dealers(B/Ds)

·         Individual investors purchase them for their short term investments

Notes

·         Bonds, maturity 1-10 years

·         2,3,5,7, 10 year maturities

·         Min. $1,000, usually sold in $5,000 to $1,000,000

·         Fixed rate of interest, paid 2x a year

Bonds

·         Maturity: 30 years

·         $1,000 minimum, usually $5,000 to $1,000,000

·         Fixed rate of interest, paid 2x a year

·         Interest calculated by actual # of days and 365 day year

·         Might be callable, if call date included

·         Not all callable

·         Callable, Treasury can refinance its debt if interest rates fall

STRIPS

·         Treasury introduced-1997

·         Variable rate government security

·         Newest of issued securities

·         Principal-adjusted for inflation

·         Same interest rate

·         Issued interest rate is set, remains same until maturity

·         Principal adjusted for inflation but never below par

·         Value of principal at maturity is paid even if more than original amount paid

·         Semiannual interest payments are based on inflation-adjusted principal at the time interest is paid and when the interest rate is applied to adjusted principal value the amount of payment increases

·         Redeemed at greater of inflation adjusted principal or par amount at maturity

Treasury STRIPS

·         Thought to be issued by the federal government but are actually issued by broker/dealers and backed by U.S. government securities

·         Known as Treasury receipts

·         CATs, TIGRs, LIONs-past

·         Separate Trading of Registered Interest and Principal Securities

·         Notes or bonds issued by Broker/Dealers and some banks who separated interest from principal of investment

·         Financial institution or broker/dealer will purchase the bond or note and “strip” the interest from principal for separate trading

·         Bond or note is sold at a discount with the discount equal to the interest that would have been paid on the bond

·         Interest payments are traded separately, a 10 yr note will be converted into 21 securities representing semiannual payment and final payment of the bond

·         Principal of note or bond is resold as a zero coupon debt security-no interest payments

·         Appreciation=interest at maturity

·         Difference between discount price and face value of the bond is the amount of interest that is paid to the investor

·         Stripped off interest is resold as a zero coupon security with maturities on each of interest payment dates

·         Investors holding STRIPS are paid at same time as government pays holders of original securities

·         Appreciation becomes interest, realized @ maturity of STRIPS @ face value

·         Amount of discount for STRIPs must be amortized (averaged) over the life of the bond and claimed as income on each year’s tax return and claimed as income on each year’s tax return during time bond is held, just as if interest had been received each year

·         At maturity, holder receives face value but only has to pay taxes on final year’s interest rather than paying them on total appreciation of bond

·         STRIPS/zero coupon bonds may be a suitable investment for a minor’s college fund because the bond interest is taxed at the minor’s income tax rate

·         Zero coupon bond may be suitable for an IRA account because the interest will not have to be reported each year

Maturity of securities

·         Treasury bills, T-bills, mature in 1mo, 3mo,6mo,12mo

·         Treasury notes,1-10 years mostly 2,3,5,7,10 years

·         Treasury bonds, 30 years

A U.S. government security that matures within one to ten years is called? A Treasury note

Guaranteed

·         When the federal government issues Treasury bills, notes or bonds it guarantees the principal and interest

·         Bills, notes, bonds-backed by the “full faith and credit” of the U.S. government

·         Federal agencies, corporations controlled and supervised by the federal government

·         Securities (bonds) are guaranteed by the full faith and credit of the U.S. government

·         Export-Import bank (Eximbank) used for trade between U.S. and foreign countries

·         Small business administration: provides loans and management assistance to small business

·         Government National Mortgage Association (GNMA)

·         GNMA aka Ginnie Mae

·         GNMA is under authority of the U.S. government (agency)

·         GNMA issues pass through certificates-bonds that represent a pool of mortgages including Department of Veterans Affairs and from the Federal Housing Administration-GNMA guaranteed, mortgages included in GNMA-not guaranteed

·         GNMA issued at 50 basis points less than pooled mortgages

·         GNMA issued with interest comparable to loans that are pooled

·         Issued in $25,000 minimum quantities

·         Investor receives monthly payments of interest & principal

·         Known as monthly pass throughs

·         Receipt of payments from borrowers of mortgage loans affects the principal and interest that is paid to the investor

·         A portion of principal is paid down each month by borrowers, refinancing of mortgages affects interest paid to investors

·         When investors buy these securities in the secondary market they do not have to pay the full $25,000 principal. They pay a %age of the $25,000 face value depending on how much has been paid in prepayments and in the monthly payments

·         Which of the following is true regarding GNMA issued securities? They are issued at a yield that is 50 basis points below the pool of mortgages. They are not for conventional loans or for farm loans. Must be purchased at least in $25,000 and then $5,000 increments after that.