Sie: Debt (Us Gov Debt)

A 5-year 2 1/4% Treasury Note is quoted at 100-12 - 100-16. The note pays interest on Jan 1st and Jul 1st. A customer buys 5M of the notes. Approximately how much will the customer pay, disregarding commissions and accrued interest?

$5,025.00 "5M" means that the customer is buying $5,000 par value of the notes (M is Latin for $1,000). A customer will buy at the ask price, which is 100 and 16/32nds = 100.50% of $5,000 par = $5,025.

A customer buys 5M of 3 1/4% Treasury Bonds at 98-8. How much will the customer receive at each interest payment?

$81.25 "5M" means that 5-$1,000 bonds are being purchased (M is Latin for $1,000). Annual interest on the bonds is 3.25% of $5,000 face amount equals $162.50. Since interest is paid semi-annually, each payment will be for $81.25. Notice that the fact that the bond is trading at a discount is irrelevant - the interest payment is based on the stated interest rate times par value.

A 10-year 4 3/4% Treasury Note is quoted at 95-11 - 95-15. The note pays interest on Jan 1st. and Jul. 1st. A customer buys 10M of the notes. Approximately how much will the customer pay, disregarding commissions and accrued interest?

$9,546.88 "10M" means that the customer is buying $10,000 par value of the notes (M is Latin for $1,000). A customer will buy at the ask price, which is 95 and 15/32nds = 95.46875% of $10,000 par = $9,546.88.

A customer buys 5M of 3 3/4% Treasury Bonds at 95-5. How much will the customer receive at each interest payment?

$93.75 "5M" means that 5-$1,000 bonds are being purchased (M is Latin for $1,000). Annual interest on the bonds is 3.75% of $5,000 face amount equals $187.50. Since interest is paid semi-annually, each payment will be for $93.75. Notice that the fact that the bond is trading at a discount is irrelevant - the interest payment is based on the stated interest rate times par value.

A Treasury Bond is quoted at 95-12. The dollar price of a $1,000 par bond is:

$953.75 The bond is quoted at 95 and 12/32nds. 12/32nds = .375, so the bond is quoted at 95.375% of $1,000 par value = $953.75.

140 Basis points equal:

1.4% Since 1 Basis Point = .01% = $.10, 140 Basis Points = 1.40% = $14.00.

A T-Bill has increased one percent in yield. This equals a :

100 basis points increase Basis points are used to measure yield. A basis point is 1/100 of 1%. Therefore, a 1% yield increase in yield constitutes a 100 basis points increase. Points measure price moves, basis points measure yields.

A customer with $50,000 to invest could buy:

2 mortgage backed pass through certificates at par Mortgage backed pass through certificates are sold in minimum denominations of $25,000 (instead of the typical $1,000 for other bonds and $100 for Treasury issues). They have a much higher minimum to discourage small investors (who tend to be less sophisticated) from buying them - because they have difficult to quantify risks of shortening or lengthening maturities, due to interest rates falling or rising, respectively. A customer with $50,000 to invest could buy 2 of these certificates at par.

Which of the following trades settle in "Fed" funds?

Agency Bonds U.S. Government and agency bond trades settle in Federal Funds, which are good funds the business day of the funds transfer (next business day for regular way settlement of government securities). Ginnie Mae Pass-Through certificates are U.S. Government guaranteed, so trades settle in Fed Funds. These trades are settled through GSCC - the Government Securities Clearing Corporation. Corporate and municipal bond trades settle in clearing house funds. These are funds payable at a registered clearing house, which are usually not good funds for three business days. These trades are settled through NSCC - the National Securities Clearing Corporation. Convertible bonds by definition are corporate issues.

Which Treasury security is NOT sold on a regular auction schedule?

CMBs CMBs are Cash Management Bills. They are sold at auction by the Treasury on an "as needed" basis to meet unexpected cash shortfalls, so they are not part of the regular auction cycle. They are the shortest-term U.S. government security, often with maturities as short as 5 days. They are sold in $100 minimums at a discount to par value, just like Treasury Bills.

Which statement is TRUE about CMBs?

CMBs are sold at a discount on an "as needed" basis CMBs are Cash Management Bills. They are sold at auction by the Treasury on an "as needed" basis to meet unexpected cash shortfalls, so they are not part of the regular auction cycle. They are the shortest-term U.S. government security, often with maturities as short as 5 days. They are sold in $100 minimums at a discount to par value, just like Treasury Bills.

Which statement about the Government National Mortgage Association Pass-Through Certificates is FALSE?

Certificates are issued in minimum units of $10,000 Ginnie Mae is backed by the guarantee of the U.S. Government, making it the highest credit rated agency security. The other agencies are only implicitly backed. Interest received by the holder of a mortgage backed pass through security is fully taxable by federal, state, and local governments. Certificates are issued in minimum $25,000 denominations. For most investors this is too much money to invest, so they buy shares of a Ginnie Mae mutual fund instead.

Which risk is avoided when making an investment in a GNMA pass-through certificate?

Credit risk Because a GNMA (Ginnie Mae) pass through certificate is guaranteed by the U.S. Government, it has no credit risk. If interest rates drop after issuance, the homeowners can prepay their mortgages, and the prepayments are passed through to the GNMA holders, who must reinvest the proceeds at lower rates. This is prepayment risk. On the other hand, if interest rates rise after issuance, the homeowners are more likely to stay in their homes and not move, so the anticipated rate of repayment of principal is extended. The GNMA certificate holder is now earning a lower than market rate of return for longer than expected - this is extension risk. Both prepayment risk and extension risk are unique to pass-through certificates. Any long-term fixed income security has purchasing power risk. If there is inflation, market interest rates rise, and the value of fixed income securities will fall. This is even worse for GNMAs because their expected maturity "extends out" even further than originally projected if market interest rates rise steeply (extension risk).

Which statement is TRUE regarding Government National Mortgage Association pass-through certificates?

Dealers typically quote GNMA securities on a basis point differential to equivalent maturity U.S. Government Bonds GNMA securities are not insured by the Federal Deposit Insurance Corporation - they are guaranteed by the U.S. Government giving these securities the same credit risk as a U.S. Treasury (none). Dealers typically quote agency securities, including Ginnie Maes, on a basis point differential to equivalent maturing U.S. Governments. A typical quote is 50 basis points above the yield on the same maturity U.S. Government issue. (Please note, that dealers also quote agency securities on a percentage of par basis in 32nds, but this is not given as a choice in the question.) Reinvestment risk is greater for Ginnie Maes than for U.S. Government bonds. Ginnie Mae holders receive monthly payments that must be continuously reinvested while T-Bond holders only receive payments every 6 months that must be reinvested. The greater the frequency of receipt of payments that must be reinvested, the greater the reinvestment risk.

Which statement is TRUE about the Federal National Mortgage Association (FNMA)?

FNMA is a publicly traded corporation that issues pass through certificates which are not guaranteed by the U.S. Government Fannie Mae performs the same functions as Ginnie Mae except that its pass through certificates are not guaranteed by the U.S. Government; and it has been "sold off" as a public company. Its stock was listed for trading on the NYSE, but Fannie went "bust" in 2008 after purchasing too many "sub prime" mortgages and was placed into government conservatorship. Its shares were delisted from the NYSE and now trade OTC in the Pink OTC Markets.

When comparing Fannie Mae certificates to Ginnie Mae certificates, which statement is TRUE?

Fannie Mae certificates are rated slightly lower than Ginnie Mae certificates and will have a slightly higher yield Since Ginnie Mae certificates are guaranteed by the U.S. Government, they are rated slightly higher than Fannie Mae certificates - which only have an "implied" government backing. In the same sense, since Fannie Mae certificates have a bit more credit risk (because they are not guaranteed directly by the U.S. Government), they will have a slightly higher yield than Ginnie Mae certificates. GNMA and FNMA securities will pay an interest rate much higher than that found on a T-Bill, mainly because their maturity is much longer.

Which of the following is a TRUE statement regarding Fannie Mae?

Fannie Mae has issued negotiable debt and equity securities Fannie Mae is a privatized agency that is publicly traded. Its stock was listed for trading on the NYSE, but Fannie went "bust" in 2008 after purchasing too many "sub prime" mortgages and was placed into government conservatorship. Its shares were delisted from the NYSE and now trade OTC in the Pink OTC Markets. Any security that trades is negotiable, so this term applies to Fannie Mae stock. The debt securities (mortgage backed pass through certificates) that are issued by Fannie Mae also trade over-the-counter. Remember that the debt market is an OTC market.

Which statement regarding Freddie Mac is FALSE?

Freddie Mac debt issues are directly guaranteed by the U.S. Government Freddie Mac - Federal Home Loan Mortgage Corporation - buys conventional mortgages from financial institutions and packages them into pass through certificates. These pass through certificates are not guaranteed by the U.S. Government (unlike GNMA pass through certificates). This agency has been partially sold off to the public as a corporation that was listed on the NYSE. Freddie is now bankrupt due to excessive purchases of bad "sub prime" mortgages and has been placed in government conservatorship. Its shares have been delisted from the NYSE and now trade OTC in the Pink OTC Markets.

Which of the following agencies issuing mortgage backed pass through certificates is permitted to purchase conventional mortgages that are not VA or FHA insured?

Freddie Mac only Freddie Mac - Federal Home Loan Mortgage Corporation - buys conventional mortgages from financial institutions and packages them into pass through certificates. These mortgages are not required to be FHA or VA guaranteed. This agency was partially sold off to the public as a corporation that was listed on the NYSE. Fannie Mae (Federal National Mortgage Association) buys FHA and VA insured mortgages from financial institutions and packages them into pass through certificates. This agency was sold off to the public as a corporation that was listed on the NYSE. Both Fannie and Freddie are now bankrupt due to excessive purchases of bad "sub prime" mortgages and have been placed in government conservatorship. Their shares have been delisted from the NYSE and now trade OTC in the Pink OTC Markets. Ginnie Mae (Government National Mortgage Association) performs the same function as Fannie Mae except that its pass through certificates are guaranteed by the U.S. Government. It remains an agency of the government and cannot be "sold off" as a public company as long as the government continues to guarantee its securities. Sallie Mae securitizes student loans, not mortgages.

A customer wishes to buy a security that provides monthly payments for his retirement. Which of the following is suitable?

GNMA Pass Through Certificates Ginnie Mae Pass Through Certificates "pass through" monthly mortgage payments to the certificate holders. Each payment is a combination of interest and principal from the underlying mortgage pool. Treasury Bonds and Notes pay interest semi-annually. Income bonds pay interest only if the corporate issuer has sufficient earnings.

Which statement is TRUE about the Government National Mortgage Association (GNMA)?

GNMA is owned by the U.S. Government and issues pass through certificates which are guaranteed by the U.S. Government GNMA performs the same function as Fannie Mae except that its pass through certificates are guaranteed by the U.S. Government; and it remains an agency of the government. It has not been "sold off" as a private company, like Fannie Mae, which, since it is bankrupt and is in government conservatorship, now trades OTC. For as long as the government continues to guarantee Ginnie Mae securities, it cannot be a publicly traded company.

Which is considered to be a direct obligation of the U.S. Government?

Government National Mortgage Association Pass Through Certificates GNMA certificates are backed by a pool of mortgages, the full faith and credit of GNMA, as well as the full faith and credit of the U.S. Government. GNMA is empowered to appropriate the funds necessary to pay interest and principal on its obligations from the U.S. Treasury. As such, this is considered a direct obligation of the U.S. Government. FNMA and FHLB are implicitly backed; there is no direct guarantee.

Which statement is FALSE regarding Treasury Inflation Protection securities?

In periods of deflation, the principal amount received at maturity will decline below par Treasury "TIPS" are Treasury Inflation Protection Securities - the principal amount of these securities is adjusted upwards with the rate of inflation. Even though the interest rate is fixed, the holder receives a higher interest payment, due to the increased principal amount. When the bond matures, the holder receives the higher principal amount. In periods of deflation, the principal amount is adjusted downwards. Even though the interest rate is fixed, the holder receives a lower interest payment, due to the decreased principal amount. In the situation where the principal amount has been adjusted below par due to deflation, when the bond matures, the holder receives par - not the decreased principal amount - a real benefit if an investor is concerned about deflation.

Which statement is FALSE regarding Treasury Inflation Protection securities?

In periods of inflation, the principal amount received at maturity will be par Treasury "TIPS" are Treasury Inflation Protection Securities - the principal amount of these securities is adjusted upwards with the rate of inflation. Even though the interest rate is fixed, the holder receives a higher interest payment, due to the increased principal amount. When the bond matures, the holder receives the higher principal amount.

A customer buys a U.S. Government bond on Friday, June 14th in a regular way trade. The trade settles on:

Monday, June 17th Trades of U.S. Government securities settle "regular way" the next business day in Fed Funds. The purchase of a U.S. Government bond on Friday, June 14th would settle on Monday, June 17th.

Which statement is TRUE regarding Treasury Bills?

No physical certificates are issued The U.S. Government issues Treasury Bills in book entry form only. No physical certificates are issued.T-Bills are short term instruments that are issued at a discount and mature to par.

What risk is unique to holders of mortgage backed pass through securities?

Prepayment risk Pass-through certificates are mortgage-backed securities that represent ownership in a pool of underlying mortgages and that pass through the monthly mortgage payments to the certificate holders. If the homeowners prepay their mortgages because interest rates are declining, these are "passed-through" to the holders, who then must reinvest the proceeds at lower current rates. This is "prepayment risk" and is essentially a variation on call risk, but here there are no specified potential call dates in the bond offering. This is a "difficult to quantify" risk and is only associated with pass-through securities. Pass through securities have interest rate risk - if market interest rates rise, their value falls. If the pass-through is not backed by the U.S. Government (only Ginnie Maes are directly government backed), then they have some level of credit risk. Finally, any long-term fixed income security making periodic payments has reinvestment risk. If interest rates are falling over the lifetime of the investment, the periodic payments are reinvested at lower and lower rates - reinvestment risk.

All of the following statements are true regarding Government National Mortgage Association pass-through certificates EXCEPT:

Reinvestment risk for GNMAs is the same as for equivalent maturity U.S. Government Bonds GNMA securities are guaranteed by the U.S. Government. Dealers typically quote agency securities, including Ginnie Maes, on a basis point differential to equivalent maturing U.S. Governments. Reinvestment risk is greater for Ginnie Maes than for U.S. Governments. Reinvestment risk is the risk that over a long-term investment time horizon, interest rates are dropping and payments received from investments are reinvested at lower and lower rates. Ginnie Mae pass through certificates make monthly payments that must be reinvested, as opposed to U.S. Governments which only make semi-annual payments. Furthermore, if market interest rates drop, the homeowners in the mortgage pool prepay their mortgages, and these early principal repayments must be reinvested, again at lower rates.

How is the interest income received from U.S. Government obligations taxed?

Subject to federal income tax and exempt from state income tax The interest income received from U.S. Government obligations is subject to federal income tax, but is exempt from state and local income taxes (one level of government cannot tax the other's obligations).

All of the following are true statements about Treasury Bills EXCEPT:

T-Bills have a maximum maturity of 2 years T-Bills have a maximum maturity of 1 year, not 2 years. They are sold at a discount from par; are the most widely traded money market instrument since the bulk of the government's financing is through T-Bills; and can be purchased directly at auction by anyone who tenders a non-competitive bid.

Which investment does NOT have purchasing power risk?

TIPS Purchasing power risk is the risk that inflation will cause interest rates to increase; and therefore, bond prices will fall. "TIPS" are Treasury Inflation Protection Securities - the principal amount of these securities is adjusted upwards with the rate of inflation. Even though the interest rate is fixed, the holder receives a higher total payment, due to the increased principal amount. When the bond matures, the holder receives the higher principal amount. Thus, there is no purchasing power risk with these securities. STRIPS are zero-coupon Treasury obligations - these have the highest level of purchasing power risk. If there is inflation, market interest rates are forced upwards, and zero-coupon bonds such as STRIPS fall dramatically in price (Treasury Receipts are broker-created zero-coupon bonds). Long term T-Bonds and middle term T-Notes also susceptible to purchasing power risk, though not as badly as long-term zero-coupon bonds. Money market instruments, such as T-Bills, do not have purchasing power risk, because they mature within 1 year and the funds can be reinvested at higher interest rates caused by inflation. Thus, the securities that have the lowest purchasing power risk are short term money market instruments and TIPS.

Which statements are TRUE regarding the actions of the Federal Reserve in the trading of U.S. Government Debt?

The Federal Reserve acts as a dealer and deals directly with primary dealers The Federal Reserve designates a dealer as a "primary" dealer - meaning one entitled to trade with the Federal Reserve trading desk. The Federal Reserve designates a dealer as primary after the firm demonstrates over many years its capacity to purchase Treasury securities at the weekly auction and to make an orderly trading market in these issues. The rest of the government dealers are termed "secondary" dealers. They do not enjoy a special relationship with the Federal Reserve. The Federal Reserve itself is a daily trading partner with the primary dealers. The Federal Reserve maintains a large inventory of Treasury securities (so it is a dealer) and trades them with the primary dealers to control credit availability. If the Fed wants to loosen credit, it buys Treasury securities from the primary dealers, giving them cash to lend out - and this lowers market interest rates. If the Fed wants to tighten credit, it sells Treasury securities to the primary dealers, draining them of cash, so fewer loans can be made - and this raises market interest rates.

Which statement is TRUE regarding Treasury Inflation Protection securities in periods of deflation?

The amount of each interest payment will decline and the principal amount received at maturity is unchanged at par Treasury "TIPS" are Treasury Inflation Protection Securities - the principal amount of these securities is adjusted upwards with the rate of inflation. Even though the interest rate is fixed, the holder receives a higher interest payment, due to the increased principal amount. When the bond matures, the holder receives the higher principal amount. In periods of deflation, the principal amount is adjusted downwards. Even though the interest rate is fixed, the holder receives a lower interest payment, due to the decreased principal amount. In the situation where the principal amount has been adjusted below par due to deflation, when the bond matures, the holder receives par - not the decreased principal amount - a real benefit if an investor is concerned about deflation.

Which statement is TRUE regarding Treasury STRIPS?

The bonds are issued at a discount Treasury STRIPS are bonds "stripped" of coupons, meaning all that is left is the principal repayment portion of the bond (sometimes called the "corpus" or body). This security is a zero coupon obligation which is an original issue discount. The accretion of the discount over the bond's life represents the interest earned. Even though no payments of interest are made annually, the discount must be accreted annually and is taxable as interest income earned. This investment is not subject to reinvestment risk since no interest payments are made. The rate of return on this bond is "locked in" at purchase. Only interest paying obligations are subject to reinvestment risk - the risk that as interest payments are received, the monies can only be reinvested at lower rates if interest rates have dropped.

Which statement about Treasury STRIPS is TRUE?

The holder is not subject to reinvestment risk Treasury STRIPS are government bonds that are "stripped" of coupons. Theses issues are very safe but do not provide current income. STRIPS are often placed into retirement accounts by conservative investors This is a zero coupon obligation with a "locked in" rate of return over the life of the bond (thus, it is not subject to reinvestment risk).

A 5-year 3 1/2% Treasury Note is quoted at 101-4 - 101-8. The note pays interest on Jan 1st. and Jul. 1st. Which statement is TRUE regarding these T-Notes?

The trade will settle in Fed Funds and interest accrues on an actual day month / actual day year basis Government bond accrued interest is computed on an actual day month/actual day year basis. Trades settle through the Federal Reserve system next business day in "Fed Funds."

Which statement is TRUE regarding the trading of government and agency bonds?

The trading market is very active, with narrow spreads The government obligation trading market is the deepest and most active market in the world. Trading is performed by both the primary and secondary dealers, and by the Federal Reserve trading desk. While long term government and agency securities are quoted in 32nds, T-Bills are quoted on a discount yield basis. The market is not regulated by the SEC because these are exempt securities under the Securities Acts. However, the Federal Reserve regulates and audits the commercial banks that are its members, and the primary government dealers are mainly the large commercial banks.

The Federal Reserve would permit all of the following to be "primary" U.S. Government securities dealers EXCEPT:

Thrift institutions The Federal Reserve allows commercial banks (such as Citibank and J.P. Morgan Chase); domestic broker-dealers (such as Goldman Sachs); and foreign broker-dealers (such as Daiwa Securities and Nomura Securities) and foreign banks such as Deutsche bank; to be primary dealers. Thrift institutions are not permitted to be primary dealers. Their focus is on obtaining deposits that are then used to make mortgages to homeowners.

All of the following trade "and interest" EXCEPT:

Treasury Bills Original issue discount obligations trade "flat" - without accrued interest. Every day the issue is held, its value increases towards the redemption price of par. This increase in value is the interest income earned on the obligation. Obligations issued at par make periodic interest payments. They trade "and interest" - with accrued interest. These include Treasury Notes, Treasury Bonds, Corporate Bonds, and Municipal Bonds.

If interest rates are rising rapidly, which U.S. Government debt prices would be LEAST volatile?

Treasury Bills The shorter the maturity, the lower the price volatility of a negotiable debt instrument. Of the choices listed, Treasury Bills have the shortest maturity. Treasury STRIPS are a zero-coupon T-Bond issue with a long maturity, and would be the most volatile of all the choices offered.

Which of the following is issued without a coupon rate?

Treasury Bills Treasury Notes, Bonds and TIPS are issued at par with a stated interest rate. Treasury Bills are zero coupon original issue discount obligations that do not have a stated interest rate.

All of the following investments give a rate of return that cannot be affected by "reinvestment risk" EXCEPT:

Treasury Bond Treasury "STRIPS" and Treasury Receipts are bonds which have been stripped of coupons - essentially they are zero coupon Treasury obligations. The rate of return on the bonds is "locked in" at purchase since the discount represents the compounded yield to be earned over the life of the bond. Because no interest payments are received, the bond is not subject to reinvestment risk - the risk that interest rates will drop and the interest payments will be reinvested at lower rates. Conventional Treasury Bonds are subject to this risk, since interest payments are received semi-annually. Treasury Bills are not subject to reinvestment risk because they are essentially short term "zero-coupon" obligations.

Which U.S. Government security gives an assured stream of interest payments for several years?

Treasury Bond Treasury bonds are issued with 30 year maturities and are non-callable. Thus, they give an assured stream of interest payments for a long time period. Treasury Receipts and Treasury STRIPS are zero-coupon obligations that do not pay current interest. T-Bills have a maximum maturity of 52 weeks, and thus will not provide income over many years.

If interest rates are rising rapidly, which U.S. Government debt prices would be MOST volatile?

Treasury Bonds The longer the maturity, the greater the price volatility of a negotiable debt instrument. Of the choices listed, Treasury Bonds have the longest maturity. Series EE bonds have no price volatility since they are non-negotiable.

All of the following trade "flat" EXCEPT:

Treasury Bonds Treasury Bills are short term original issue discount obligations, with the discount earned being the "interest." Treasury Receipts (broker-created zero coupon Treasury bonds that have now all matured) and Treasury STRIPS are zero-coupon obligations. Because all of these obligations do not make periodic interest payments, they trade "flat" - that is, without accrued interest. Treasury Bonds pay interest semi-annually, so these issues trade with accrued interest.

Which of the following securities does NOT trade "flat" ?

Treasury Notes Treasury Bills are short term original issue discount obligations, with the discount earned being the "interest." Treasury Receipts (broker-created zero coupon Treasury bonds that have now all matured) and Treasury STRIPS are zero-coupon obligations. Because all of these obligations do not make periodic interest payments, they trade "flat" - that is, without accrued interest. Treasury Notes pay interest semi-annually, so these issues trade with accrued interest.

Which of the following is a zero coupon original issue discount obligation?

Treasury STRIPS Treasury Bills and STRIPS are zero coupon original issue discount obligations that do not have a stated interest rate. Treasury Notes and Bonds are issued at par with a stated interest rate. TIPS pay a floating rate of interest based on the inflation rate.

All of the following are true statements about U.S. Government Agency securities EXCEPT:

U.S. Government Agency Securities trade flat Government agency securities are quoted in 32nds, similar to U.S. Government securities. Government agency securities have an indirect backing (or implicit) by the U.S. Government. Unlike U.S. Governments, on which accrued interest is computed on an actual day month/actual day year basis, Agency securities' accrued interest is computed on a 30 day month/360 day year basis. U.S. Government and Agency securities never trade flat (meaning without accrued interest), since a default is almost impossible.

A government securities dealer quotes a 3-month Treasury Bill at 5.00 Bid - 4.90 Ask. A customer who wishes to buy 1 Treasury Bill will pay:

a dollar price quoted to a 4.90 basis Treasury Bills are quoted on a yield basis. From the basis quote, the dollar price is computed. A customer who wishes to buy will pay the "Ask" of 4.90. This means that the dollar price will be computed by deducting a discount of 4.90 percent from the minimum par value of $100. This is the discount earned over the life of the instrument.

A government securities dealer quotes a 3-month Treasury Bill at 6.00 Bid - 5.90 Ask. A customer who wishes to buy 1 Treasury Bill will pay:

a dollar price quoted to a 5.90 basis Treasury Bills are quoted on a yield basis. From the basis quote, the dollar price is computed. A customer who wishes to buy will pay the "Ask" of 5.90. This means that the dollar price will be computed by deducting a discount of 5.90 percent from the par value of $100. This is the discount earned over the life of the instrument.

New offerings of Treasury Notes are issued in:

book entry only form The U.S. Government issues Treasury Securities in book entry form only. No physical certificates are issued.

A high income client who lives in California would be more likely to buy a Treasury security as an investment because the interest income is:

exempt from California state income tax The interest income received from U.S. Government obligations is subject to federal income tax, but is exempt from state and local income taxes (one level of government cannot tax the other's obligations). Thus, Treasury securities are a more attractive investment for customers looking for a very safe investment who reside in high income tax states (like New York and California). They are a less attractive investment for customers who live in states that have no income tax (like Florida and Texas).

Treasury notes and bonds are:

fully registered in book entry form Treasury Bills, Notes and Bonds are only available in book entry form.

All of the following statements are true about the Government National Mortgage Association Pass-Through Certificates EXCEPT:

interest payments are exempt from state and local tax Interest received by the holder of a mortgage backed pass through security is fully taxable by both federal, state, and local government. Ginnie Mae is backed by the guarantee of the U.S. Government, making it the highest credit rated agency security. The other agencies are only implicitly backed. Certificates are issued in minimum $25,000 denominations. For most investors this is too much money to invest, so they buy shares of a Ginnie Mae mutual fund instead.

If Treasury bill yields are rising at auction, this indicates that:

interest rates are rising while bill prices are falling If Treasury bill yields are rising at auction, then interest rates are rising and debt prices must be falling.

The nominal interest rate on a TIPS is:

less than the rate on an equivalent maturity Treasury Bond The interest rate placed on a TIPS (Treasury Inflation Protection Security) is less than the rate on an equivalent maturity Treasury Bond. For example, a 30 year Treasury Bond might have a coupon rate of 4%; but a 30 year TIPS has a coupon rate of 2.75%. The "difference" between the two is the current market expectation for the inflation rate (1.25% in this example). The reason why the TIPS sells at a lower coupon rate is that, every year, the principal amount is adjusted upwards by that year's inflation rate. So there are really 2 components of return on a TIPS - the lower coupon rate plus the principal adjustment equal to that year's inflation rate.

Yields on 3 month Treasury bills have declined to 1.84% from 2.21% at the prior week's Treasury auction. This indicates that:

market interest rates are falling If Treasury bill yields are dropping at auction, then interest rates are falling and debt prices must be rising.

Payments to holders of Ginnie Mae pass-through certificates are made:

monthly and represent a payment of both interest and principal All pass-through certificates pass on the monthly mortgage payments received from the pooled mortgages to the certificate holders. Thus, payments are received monthly. These represent a payment of both interest and principal on the underlying mortgages.

A security which gives the holder an undivided interest in a pool of mortgages is known as a:

pass through certificate The question defines a pass through certificate - an undivided interest in a pool of mortgages, where the mortgage payments are passed through to the certificate holders.

Series EE bonds:

pay interest at redemption Series EE bonds are "savings bonds" issued by the U.S. Government with a minimum purchase amount of $25 (or more). This is the face value of the bond, and any interest earned is added to the bond's value. The interest rate is set at the date of issuance. Interest is "earned" monthly and credited to the principal amount every 6 months. The bonds have no stated maturity - the holder can redeem at any time, however interest is only credited to the bonds for 30 years. Savings bonds do not trade - they are issued by the Treasury and are redeemed with the Treasury. No physical certificates are issued - the bonds are issued in electronic form.

A wealthy retired investor is interested in buying Agency mortgage backed securities collateralized by 30-year mortgages as an investment that will give additional retirement income. When discussing this with the client, you should advise him that if market interest rates fall:

principal will be repaid earlier than anticipated and will need to be reinvested at lower rates, generating a lower level of income If market interest rates fall, the homeowners will repay their mortgages faster because they will refinance and use the proceeds to pay off their old high rate mortgages that collateralize this mortgage-backed security. In effect, the maturity will shorten and the investor will be returned principal faster, which will have to be reinvested at lower current rates - another example of reinvestment risk. The rate of homeowner defaults has no effect on the principal repayments to be received because the Agency guarantees principal repayment - making Choice B incorrect. Maturities will only extend if market interest rates rise and homeowners stay in their houses (they don't move because new mortgages are more expensive), and principal is repaid more slowly than expected. Thus. Choice C is incorrect. In a falling interest rate environment, because the maturity will shorten, these securities will not rise in price at the same rate as conventional long-term bonds. Thus, Choice D is incorrect.

U.S. Treasury securities are generally considered to be immune to all of the following risks EXCEPT:

purchasing power risk Securities issued by the U.S. Government represent the largest securities market in the world. Therefore, very little marketability risk exists. Default risk and credit risk are the same - U.S. Government securities are considered to have virtually no default risk. (The government can always tax its citizens to pay the debt or can print the money to do it). All debt obligations are susceptible to purchasing power risk - the risk that inflation raises interest rates, devaluing existing obligations.

A pass through certificate is best described as a:

security which gives the holder an undivided interest in a pool of mortgages A pass through certificate is a security which gives the holder an undivided interest in a pool of mortgages. The mortgage payments are "passed through" to the certificate holders.

Interest income received from a GNMA Pass-Through Certificate is:

subject to both federal and state income tax Unlike Treasury obligations and regular agency debt, where interest income is subject to federal income tax, but is exempt from state and local tax, interest income from mortgage backed securities is subject to both federal and state income tax. This is the law because the interest payments made on the underlying mortgages are deductible to the homeowner making the mortgage payments at both the federal and state level, therefore the recipient of these payments should be taxed at both the federal and state level.

Interest income received from a GNMA Pass-Through Certificate is:

taxed the same as for corporate obligations Unlike Treasury obligations and regular agency debt, where interest income is subject to federal income tax, but is exempt from state and local tax, interest income from mortgage backed securities is subject to both federal and state income tax. This is the law because the interest payments made on the underlying mortgages are deductible to the homeowner making the mortgage payments at both the federal and state level, therefore the recipient of these payments should be taxed at both the federal and state level. Note that interest income from corporate bonds is also taxable at both the federal and state level, so interest income from mortgage backed pass through securities is taxed in the same manner.

All of the following statements are true about the Federal National Mortgage Association Pass-Through Certificates EXCEPT:

the credit rating is considered the highest of any agency security FNMA is a publicly traded company. Its stock was listed for trading on the NYSE, but Fannie went "bust" in 2008 after purchasing too many "sub prime" mortgages and was placed into government conservatorship. Its shares were delisted from the NYSE and now trade OTC in the Pink OTC Markets. Unlike GNMA, whose securities are directly U.S. Government guaranteed; FNMA only carries an "implicit" U.S. Government backing, so its credit rating is lower than that of GNMA. Interest received by the holder of a mortgage backed pass through security is fully taxable by both federal, state, and local government. Certificates are issued in minimum $25,000 denominations. For most investors this is too much money to invest, so they buy shares of a mutual fund that invests in these instruments instead.