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STRIPS and Zero Coupon Treasury Securities

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cnbunny's version from 2018-02-23 12:28

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STRIP meansSeparate Trading of Registered Interest and Principal of Securities
Zero coupon Treasury securities are created from issued Treasury securities, mostly ---, by stripping the coupons and selling each --- payment and --- payment as a zero coupon (discount) bond.bonds
coupon
principal
The coupon and principal strips are sold at a discount, and thus the interest paid is the difference between the face value of the --- or --- and the ---.coupon, principal
discounted price
The longer the maturity of a strip, the greater/lower the discount (lower/greater the current price).greater
lower
The components of a "stripped" security are frequently referred to in the marketplace as --- or --- coupons. They are called --- because purchasers of such securities do not receive explicit periodic interest payments.Treasury zero(s)
zeros
The value of strips at maturity is backed by the full faith and credit of the United States.
The Treasury does not issue or sell STRIPS directly to investors. "Stripped" Treasury securities may be purchased and held only through --- and ---, they are not issued directly to investors.financial institutions
government securities brokers and dealers
The Treasury can create strips with the advent of storing Treasury securities as electronic records in the --- of the Federal Reserve, where a record of a security can be easily altered to change its form from a coupon bond to a number of zero coupon bonds, with each interest payment and the principal payment becoming a separate zero-coupon security, with its own CUSIP (---) number for separate identification.commercial book-entry system
Committee on Uniform Securities Identification Procedures
When a financial institution (ex: bank) wants to create strips from its Treasury securities held at Federal Reserve bank, it simply notifies the ---. The --- creates the STRIPS by issuing new CUSIP numbers that uniquely identify each STRIP, allowing STRIPS to be traded independently in the ---. The --- can also reconstitute the strips at the request of the owner into a note or bond.Federal Reserve
secondary market
Treasury securities with maturities of --- years or longer can be "stripped".10
Why do investors hold a STRIPPED security? (demand side) (4)1) Treasury strips pay no periodic interest. They provide safety of principal: the U.S. Treasury has never defaulted on a bond obligation, and Treasury securities are generally considered safer than AAA-rated corporate bonds.
2) buyers of Strips benefit from a reduced purchase price
3) for retirees, Treasury Strips can fill the gap between expected income and expected expenses
4) zero coupon securities allow pension funds and insurance companies to better match the cash flows from their investments to their liabilities (buyers of STRIPS expect interest rate to fall => lock in the current rate by buying zeros)
"Stripped" Treasury securities and other zero-coupon securities are attractive to investors who want to (3)1) be sure of receiving a certain amount at a specific future date
2) are not concerned about receiving current income
3) do not want to worry about finding an appropriate reinvestment opportunity for each intervening interest payment
Why are STRIPS created? (supply side)1) interest rate risk = fluctuations in value of an asset (refer to interest rate risk formula) The higher the duration the higher the potential volatility <=> higher interest rate risk
2) the STRIPS market is significantly less liquid than the U.S. Treasury bond market
3) holder of a STRIP also faces inflation risk. (if you don't sell before maturity, the money collected at end of term may have lost some of its value)
4) holder of zero responsible for taxes on interest as it accrues (every year until bond matures)
Duration analysis is used to gauge interest rate risk. % change in --- = (% change in ---) * duration OR % change in --- / % change in --- = duration (or maturity period of a zero coupon bond)market value, interest
market value, interest
An investor's earnings on a "stripped" security are usually the difference between purchase price and the value received at maturity. This difference is referred to as the ---.Original Issue Discount
The amount of income from strips to be reported is for --- not --- or --- tax purposes. Hence STRIPS and TIPS are attractive investments for tax-deferred accounts, such as individual retirement accounts and 401(k) plans, and for non-taxable accounts (ex: pension funds). When the components of a "stripped" security are sold before maturity, gains and losses must be reported by sellerfederal
state, local
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