Figure

Listing of Treasury issues

Source: From The Wall Street Journal, October 19, 2001. Reprinted by permission of Dow Jones & Company, Inc. via Copyright Clearance Center, Inc. © 2001 Dow Jones & Company, Inc. All Rights Reserved Worldwide.

income that is far from fixed. Therefore, the term "fixed income" is probably not fully appropriate. It is simpler and more straightforward to call these securities either debt instruments or bonds.

Treasury Notes and Bonds

The U.S. government borrows funds in large part by selling Treasury notes and bonds. T-note maturities range up to 10 years, while T-bonds are issued with maturities ranging from 10 to 30 years. The Treasury announced in late 2001 that it would no longer issue bonds with maturities beyond 10 years. Nevertheless, investors often refer to all of these securities collectively as Treasury or T-bonds. They are issued in denominations of $1,000 or more. Both bonds and notes make semiannual interest payments called coupon payments, so named because in precomputer days, investors would literally clip a coupon attached to the bond and present it to an agent of the issuing firm to receive the interest payment. Aside from their differing maturities at issuance, the only major distinction between T-notes and T-bonds is that T-bonds may be callable during a given period, usually the last five years of the bond's life. The call provision gives the Treasury the right to repurchase the bond at par value. While callable T-bonds still are outstanding, the Treasury no longer issues callable bonds.

Figure 2.3 is an excerpt from a listing of Treasury issues in The Wall Street Journal. The highlighted bond matures in August 2009. The coupon income or interest paid by the bond is 6% of par value, meaning that for a $1,000 face value bond, $60 in annual interest payments will be made in two semiannual installments of $30 each. The numbers to the right of the colon in the bid and ask prices represent units of & of a point.

Treasury notes or bonds

Debt obligations of the federal government with original maturities of one year or more.

32 Part ONE Elements of Investments

The bid price of the highlighted bond is 110%2, or 110.1875. The ask price is 110%2, or 110.28125. Although bonds are sold in denominations of $1,000 par value, the prices are quoted as a percentage of par value. Thus, the ask price of 110.28125 should be interpreted as 110.28125% of par or $1,102.8125 for the $1,000 par value bond. Similarly, the bond could be sold to a dealer for $1,101.875. The -3 change means the closing price on this day fell % (as a percentage of par value) from the previous day's closing price. Finally, the yield to maturity on the bond based on the ask price is 4.43%.

The yield to maturity reported in the last column is a measure of the annualized rate of return to an investor who buys the bond and holds it until maturity. It is calculated by determining the semiannual yield and then doubling it, rather than compounding it for two half-year periods. This use of a simple interest technique to annualize means that the yield is quoted on an annual percentage rate (APR) basis rather than as an effective annual yield. The APR method in this context is also called the bond equivalent yield. We discuss the yield to maturity in detail in Chapter 9.

Federal Agency Debt

Some government agencies issue their own securities to finance their activities. These agencies usually are formed for public policy reasons to channel credit to a particular sector of the economy that Congress believes is not receiving adequate credit through normal private sources. Figure 2.4 reproduces listings of some of these securities from The Wall Street Journal.

The major mortgage-related agencies are the Federal Home Loan Bank (FHLB), the Federal National Mortgage Association (FNMA, or Fannie Mae), the Government National Mortgage Association (GNMA, or Ginnie Mae), and the Federal Home Loan Mortgage Corporation (FHLMC, or Freddie Mac).

Freddie Mac, Fannie Mae, and Ginnie Mae were organized to provide liquidity to the mortgage market. Until establishment of the pass-through securities sponsored by these government agencies, the lack of a secondary market in mortgages hampered the flow of investment

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