Dan Huang Ben Misley

 Huge influence on the investment world  Issues bills, bonds, and notes  Considered to have no default risk as the U.S. government has never defaulted

 STRIPS and TIPS are creative investment vehicles issued by the Treasury that offer different investment advantages beyond the normal issuance of standard bills, bonds, and notes  STRIPS: Separate Trading of Registered Interest and Principal of Securities  TIPS : Treasury Inflation-Protection Securities

 CATS: introduced by Solomon Brothers in August  TIGRs: created by Merrill Lynch  Process:

 Other investment banks also invented their own receipts called trademark zero-coupon Treasury security  Limited liquidity in the secondary market  There existed default risk  TRs: issued by a group of primary dealers in the government market  The settlement required physical delivery  In February 1985, the Treasury carried out STRIPS program

Security Par: $100 million Coupon: 10%, semiannual Maturity: 5 years Coupon: $5 million Receipt in: 6 months Coupon: $5 million Receipt in: 1 year Coupon: $5 million Receipt in: 5 years Maturity value: $100 million Receipt in 5 years Maturity value: $5 million Maturity: 6 months Maturity value: $5 million Maturity: 1 year Maturity value: $5 million Maturity: 5 years Maturity value: $100 million Maturity: 5 years Cash flow Zero-coupon Treasury securities created

 Minimum amount: $100  Investment increment should be multiples of $100  The components can be reassembled into a fully constituted security  the CUSIP numbers of interest components are different from the CUSIP numbers of principal components and fully constituted securities

 Interest earned on STRIPS must be reported in the year in which it is earned  Some countries consider the interest from principal strips as capital gain which enjoys a preferential tax treatment

 Zero-coupon security backed by Treasury  No credit risk  Good for investors who want to receive a known payment on a specific future date  No reinvestment risk because the payment to the investor only occurs at maturity.  Tax-deferred accounts such as individual retirement accounts  Non-taxable accounts such as pension funds

 The coupon and principal payments are “stripped” from a T-bond and sold as individual zero-coupon bonds  STRIPS are debts of the U.S. government so no default risk  Good investment choice for pension funds and retirement accounts though the gain is subjected to federal tax

 Treasury Inflation-Protected Securities ◦ Securities issued by the Treasury (bonds or notes) ◦ Protected from inflation by adjusting principal and coupon payments accordingly  Designed to protect the purchasing power of the investor  Created in 1997 by the U.S. Treasury

 TIPS uses the Consumer Price Index (CPI) as a standard for inflation measurement  Each coupon payment (and eventually the principal) are adjusted for inflation or deflation by multiplying the principal value by the inflation rate

 No default risk, as they are offered by the U.S. Treasury  No inflation risk  real rate of return is protected as coupon payments and principal payments are adjusted by yearly inflation (as stated by CPI)

 TIPS are used as a way to hedge inflation risk  However, as it is known with other hedges, such as futures contracts, while downside is limited, the upside is taken away as well  With TIPS, when deflation occurs, our security value decreases proportionally  With a normal bond, deflation would be a good thing as rates are locked in and our real rate of return would increase

 “Safest investment in the world” ◦ No default risk ◦ No inflation risk  However, because of these advantages, TIPS do not offer a high return

 Both issued by the Treasury without default risk  Interests of both securities are taxable  Both offer unique advantages beyond normal treasury securities of bonds, notes, and bills ◦ STRIPS – Zero-coupon security backed by Treasury ◦ TIPS – Protects purchasing power of investor