chapter 16. treasury securities markets treasury securities primary market secondary market stripped...
TRANSCRIPT
Chapter 16. Chapter 16. Treasury Securities MarketsTreasury Securities Markets
Chapter 16. Chapter 16. Treasury Securities MarketsTreasury Securities Markets
• Treasury Securities
• Primary Market
• Secondary Market
• Stripped Treasuries
• Treasury Securities
• Primary Market
• Secondary Market
• Stripped Treasuries
I. Treasury SecuritiesI. Treasury SecuritiesI. Treasury SecuritiesI. Treasury Securities
• Treasury is largest debt issuer in world• large trading volume• high liquidity• zero default risk
• Treasury is largest debt issuer in world• large trading volume• high liquidity• zero default risk
currently issued securitiescurrently issued securitiescurrently issued securitiescurrently issued securities
• Tbills• zero coupon• 4, 13, 26 weeks
• Tnotes, Tbonds• coupon• 2, 5, 10 years• 30 yrs stopped in 11/2001
• Tbills• zero coupon• 4, 13, 26 weeks
• Tnotes, Tbonds• coupon• 2, 5, 10 years• 30 yrs stopped in 11/2001
TIPSTIPSTIPSTIPS
• inflation-indexed 10-year Tnote
• guarantee a real return if held until maturity• purchasing power of cash flows
held constant, not dollar value
• inflation-indexed 10-year Tnote
• guarantee a real return if held until maturity• purchasing power of cash flows
held constant, not dollar value
how do they work?how do they work?how do they work?how do they work?
• coupon rate set when issued• does NOT change
• face value adjusted annually • % increase in CPI• face value will not fall
• coupon rate set when issued• does NOT change
• face value adjusted annually • % increase in CPI• face value will not fall
exampleexampleexampleexample
• at issue: F = $10,000, coupon = 4%• payment = (.04)(.5)(10,000) = $200
• year 1: CPI 3%• new F = $10,000(1.03) = $10,300• payment = (.04)(.5)(10300) = $206
• at issue: F = $10,000, coupon = 4%• payment = (.04)(.5)(10,000) = $200
• year 1: CPI 3%• new F = $10,000(1.03) = $10,300• payment = (.04)(.5)(10300) = $206
• year 2: CPI = 2%• new F = $10,300(1.02) = $10,506• payment = (.04)(.5)(10506) = $210.12
• year 2: CPI = 2%• new F = $10,300(1.02) = $10,506• payment = (.04)(.5)(10506) = $210.12
advantage of TIPSadvantage of TIPSadvantage of TIPSadvantage of TIPS
• little inflation risk
• federal gov’t has incentive to keep inflation low
• little inflation risk
• federal gov’t has incentive to keep inflation low
disadvantagedisadvantagedisadvantagedisadvantage
• coupon rate is lower
• additions to face value taxed in the year they occur• but face value not received until
maturity
• coupon rate is lower
• additions to face value taxed in the year they occur• but face value not received until
maturity
II. Primary MarketII. Primary MarketII. Primary MarketII. Primary Market
• by auction• debt is issued by Treasury Dept.• auction ran by Federal Reserve
• by auction• debt is issued by Treasury Dept.• auction ran by Federal Reserve
auction frequencyauction frequencyauction frequencyauction frequency
• weekly• 4, 13, 26 week Tbills
• monthly• 2 year Tnotes
• quarterly• 5, 10 year Tnotes• 10 yr. TIPS
• weekly• 4, 13, 26 week Tbills
• monthly• 2 year Tnotes
• quarterly• 5, 10 year Tnotes• 10 yr. TIPS
types of bidstypes of bidstypes of bidstypes of bids
• $1000 minimum
• increments of $1000• $1000 minimum
• increments of $1000
competitive bidscompetitive bidscompetitive bidscompetitive bids
• bid by yield• lowest yields (highest price) are
successful
• quantity limited to 35% of offering for a single buyer
• only primary dealers submit competitive bids
• bid by yield• lowest yields (highest price) are
successful
• quantity limited to 35% of offering for a single buyer
• only primary dealers submit competitive bids
• primary dealers• large Treasury dealers• sufficient volume for Fed OMO• about 20 primary dealers
• primary dealers• large Treasury dealers• sufficient volume for Fed OMO• about 20 primary dealers
noncompetitive bidsnoncompetitive bidsnoncompetitive bidsnoncompetitive bids
• bid by quantity• $1 million limit for Tbills• $5 million limit for Tnotes, Tbonds
• agree to pay average yield of successful competitive bids
• anyone may submit a noncompetitive bid
• bid by quantity• $1 million limit for Tbills• $5 million limit for Tnotes, Tbonds
• agree to pay average yield of successful competitive bids
• anyone may submit a noncompetitive bid
tradeofftradeofftradeofftradeoff
• naming your reservation price (yield)• competitive bid
• vs.
• guarantee of success in filling bid• noncompetitive bid
• naming your reservation price (yield)• competitive bid
• vs.
• guarantee of success in filling bid• noncompetitive bid
awarding Treasuriesawarding Treasuriesawarding Treasuriesawarding Treasuries
• total amount auctioned
- Federal Reserve purchases
- noncompetitive bids
= amount for competitive bids
• total amount auctioned
- Federal Reserve purchases
- noncompetitive bids
= amount for competitive bids
• competitive bids awarded,• starting with lowest yield• & going up until all Treasuries are
awarded
• competitive bids awarded,• starting with lowest yield• & going up until all Treasuries are
awarded
• stop yield• highest yield of accepted competitive
bid• bidders at stop only get a fraction of
requested quantity
• tail
= stop yield - av. of successful yield bids• small tail means agreement about value
• stop yield• highest yield of accepted competitive
bid• bidders at stop only get a fraction of
requested quantity
• tail
= stop yield - av. of successful yield bids• small tail means agreement about value
• what do the bidders pay?• 1990s single price auction• all bidders pay price equivalent to
stop yield• no “winner’s curse”
-- low yield bidder would pay highest price relative to others
• what do the bidders pay?• 1990s single price auction• all bidders pay price equivalent to
stop yield• no “winner’s curse”
-- low yield bidder would pay highest price relative to others
ExampleExampleExampleExample
• 26 week Tbills, 3/18/02
• total $17 billion
• noncompetitive bids = $1.5 billion
• Federal Reserve = $5 billion
• competitive bids = $38 billion
• how to award competitive bids?
• 26 week Tbills, 3/18/02
• total $17 billion
• noncompetitive bids = $1.5 billion
• Federal Reserve = $5 billion
• competitive bids = $38 billion
• how to award competitive bids?
• $10.5 billion for competitive bids
• suppose bids are:• $10.5 billion for competitive bids
• suppose bids are:
$ 5 billion 1.78%
$ 23 billion over 1.87%
$ 3 billion 1.8%$ 2 billion 1.85%
$ 5 billion 1.87%
$10 billionaccepted in full
stop yield
unsuccessful
• stop yield = 1.87%• bidders at stop yield got 10% of
quantity requested
(.5 million left /5 million requested)
• stop yield = 1.87%• bidders at stop yield got 10% of
quantity requested
(.5 million left /5 million requested)
1991 auction scandal1991 auction scandal1991 auction scandal1991 auction scandal
• Salomon Bros.• submitted fraudulent bids to
exceed quantity limits
• results• single price auction• switch from sealed written bids to
open computerized process
• Salomon Bros.• submitted fraudulent bids to
exceed quantity limits
• results• single price auction• switch from sealed written bids to
open computerized process
III. Secondary MarketIII. Secondary MarketIII. Secondary MarketIII. Secondary Market
• OTC market• dealers w/ bid-ask prices
• “on-the-run” Treasuries• closer to auction date• more liquid
• “off-the-run” Treasuries• farther from auction date• less liquid
• OTC market• dealers w/ bid-ask prices
• “on-the-run” Treasuries• closer to auction date• more liquid
• “off-the-run” Treasuries• farther from auction date• less liquid
• “wi” market• when issued• Treasuries bought/sold prior to
auction date
• “wi” market• when issued• Treasuries bought/sold prior to
auction date
Price quotation in Treasury marketPrice quotation in Treasury marketPrice quotation in Treasury marketPrice quotation in Treasury market
• Tbills• quoted by “discount yield”
• Tbills• quoted by “discount yield”
discount yield = F - P
Fx
360d
discount yield = F - P
Fx
360d
YTM = F - P
Px
365d
YTM > discount yield
exampleexampleexampleexample
• F = $100,000
• 90 days
• discount yield = 5.25%
• what is Tbill price?
• F = $100,000
• 90 days
• discount yield = 5.25%
• what is Tbill price?
.0525 = 100,000 - P
100,000x
36090
100,000 - P.0525 (100,000) =
4
P = $98,687.50
• what is yield to maturity?• what is yield to maturity?
YTM = 100,000 - 98687.5
98687.5x
36590
YTM = 5.39%
• Tnotes and Tbonds• quoted by price• per $100 of face value• up to 1/32 of $1
• Tnotes and Tbonds• quoted by price• per $100 of face value• up to 1/32 of $1
exampleexampleexampleexample
• F = $100,000
• ask price 117:19
• what is price?• $117 19/32 per $100
-- 19/32 = .59375• P = $117,593.75
• F = $100,000
• ask price 117:19
• what is price?• $117 19/32 per $100
-- 19/32 = .59375• P = $117,593.75
RegulationRegulationRegulationRegulation
• exempt from most SEC regulation in debt markets
• no reporting of trades
• no display of bid/ask quotes for public• reported among primary dealers
• exempt from most SEC regulation in debt markets
• no reporting of trades
• no display of bid/ask quotes for public• reported among primary dealers
IV. Stripped TreasuriesIV. Stripped TreasuriesIV. Stripped TreasuriesIV. Stripped Treasuries
• Treasury does NOT issue zero coupon Tnotes or Tbonds
• 1982 firms created own synthetic zero coupon Treasuries• trademarked securities
• Treasury does NOT issue zero coupon Tnotes or Tbonds
• 1982 firms created own synthetic zero coupon Treasuries• trademarked securities
how did it work?how did it work?how did it work?how did it work?
• firms issued own zero coupon debt• backed by Treasury cash flows
• Merrill Lynch--TIGRs
• Salomon Bros. -- CATS
• firms issued own zero coupon debt• backed by Treasury cash flows
• Merrill Lynch--TIGRs
• Salomon Bros. -- CATS
• trademarked securities have some default risk• not direct obligations of U.S.
• trademarked securities not intertradeable• TIGRs were different from CATS
• trademarked securities have some default risk• not direct obligations of U.S.
• trademarked securities not intertradeable• TIGRs were different from CATS
problemsproblemsproblemsproblems
Treasury STRIPS (1985)Treasury STRIPS (1985)Treasury STRIPS (1985)Treasury STRIPS (1985)
• standardized the market
• certain Tnotes, Tbonds eligible for stripping• STRIPS direct obligation of U.S.• STRIPS are intertradeable
• standardized the market
• certain Tnotes, Tbonds eligible for stripping• STRIPS direct obligation of U.S.• STRIPS are intertradeable