Debt: U.S. Government Debt

A customer buys 5M of 3 3/4% Treasury Bonds at 95-5. How much will the customer receive at each interest payment? A. $93.75 B. $187.50 C. $325.00 D. $375.00

The best answer is A. "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.

Which statement is FALSE about CMBs? A. CMBs are used to smooth out cash flow B. CMBs are sold at a discount to par C. CMBs are sold at a regular weekly auction D. CMBs are direct obligations of the U.S. government

The best answer is C. 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.

100 Basis points equals: A. .01% B. .1% C. 1% D. 10%

The best answer is C. One basis point equals .01%, so 100 basis points equals 1%.

Sallie Mae makes a secondary market in: A. FHA insured mortgages from banks B. VA insured mortgages from banks C. student loans from state agencies D. conventional mortgages

The best answer is C. Sallie Mae is the Student Loan Marketing Association. It buys student loans from state agencies and issues bonds to finance this activity.

All of the following statements are true about CMOs EXCEPT: A. CMO issues have a serial structure B. CMO issues are rated AAA C. CMO issues are more accessible to individual investors than regular pass-through certificates D. CMO issues have the same market risk as regular pass-through certificates

The best answer is D. CMOs have a lower level of market risk (risk of price volatility due to movements in market interest rates) than do mortgage backed pass-through certificates. Because CMO issues are divided into tranches, each specific tranche has a more certain repayment date, as compared to owning a mortgage backed pass-through certificate. Thus, the price movement of that specific tranche, in response to interest rate changes, more closely parallels that of a regular bond with a fixed repayment date. As interest rates rise, CMO values fall; as interest rates fall, CMO values rise. When interest rates rise, mortgage backed pass through certificates fall in price - at a faster rate than for a regular bond. This is true because when the certificate was purchased, assume that the average life of the underlying 15 year pool (for example) was 12 years. Thus, the certificate was priced as a 12 year maturity. If interest rates rise, then the average maturity will lengthen, due to a lower prepayment rate than expected. If the maturity lengthens, then for a given rise in interest rates, the price will fall faster. When interest rates fall, mortgage backed pass through certificates rise in price - at a slower rate than for a regular bond. This is true because when the certificate was purchased, assume that the average life of the underlying 15 year pool (for example) was 12 years. Thus, the certificate was priced as a 12 year maturity. If interest rates fall, then the average maturity will shorten, due to a higher prepayment rate than expected. If the maturity shortens, then for a given fall in interest rates, the price will rise slower. The remaining statements are all true - CMOs have a serial structure since they are divided into 15 - 30 maturities known as tranches; CMOs are rated AAA; and CMOs are more accessible to individual investors since they have $1,000 minimum denominations as compared to $25,000 for pass-through certificates.

Treasury Receipts pay interest: A. monthly B. quarterly C. semi-annually D. at maturity

The best answer is D. Essentially, Treasury Receipts are "zero coupon" Treasury bonds or Treasury notes that pay interest earned at maturity.

Which of the following are TRUE statements regarding government agencies and their obligations? I Ginnie Mae is a publicly traded company II Ginnie Mae is a U.S. Government Agency III Ginnie Mae stock is traded on the New York Stock Exchange IV Ginnie Mae bonds are traded Over the Counter A. I and III B. I and IV C. II and III D. II and IV

The best answer is D. Ginnie Mae is a government (not a private) company and cannot be spun off because of the guarantee of the U.S. Government. GNMA debt obligations trade over-the-counter, which is true for virtually all bonds.

A 5 year 3 3/4% Treasury Note is quoted at 101-8 - 101-16. The note pays interest on Jan 1st and Jul 1st. Which of the following statements are TRUE regarding this trade of T-Notes? I Interest accrues on an actual day month; actual day year basis II The yield to maturity will be lower than the current yield III The trade will settle in Fed Funds IV The trade will settle next business day if performed "regular way" A. I and II only B. III and IV only C. I, II, IV D. I, II, III, IV

The best answer is D. Government bond accrued interest is computed on an actual month/actual year basis; trades settle through the Federal Reserve system in "Fed Funds;" and trades settle next business day. Because these T-Notes are trading at a premium, the yield to maturity will be lower than the current yield.

The minimum denomination for a mortgage backed pass through certificate is: A. $100 B. $1,000 C. $5,000 D. $25,000

The best answer is D. 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.

Series EE bonds: I are issued at a discount to face II are issued at face value III pay interest semi-annually IV pay interest at redemption A. I and III B. I and IV C. II and III D. II and IV

The best answer is D. 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 (a bank can act as agent for the Treasury issuing and redeeming Series EE bonds). No physical certificates are issued - the bonds are issued in electronic form.

$100 is the minimum denomination for all of the following EXCEPT: A. Treasury Bills B. Treasury Notes C. Treasury Bonds D. Treasury Stock

The best answer is D. The minimum denomination on a Treasury Bill, Treasury Note or Bond is $100 maturity amount. Treasury Stock has no standard par value, since it is common stock of an issuer.

Treasury Notes are issued by the U.S. Government in which form? A. Book Entry B. Bearer C. Registered to Principal Only D. Registered to Principal and Interest

The best answer is A. The U.S. Government issues Treasury Notes in book entry form.

A customer buys 5M of 3 1/4% Treasury Bonds at 98-8. How much will the customer receive at each interest payment? A. $35.00 B. $81.25 C. $162.50 D. $325.00

The best answer is B. "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.

Regarding the allocation of CMO cash flows, which statements are TRUE? I Interest received from the underlying securities is allocated pro-rata to all tranches II Interest received from the underlying securities is allocated sequentially by tranche maturity III Principal repayments received are allocated pro-rata to all tranches IV Principal repayments received are allocated sequentially by tranche maturity A. I and III B. I and IV C. II and III D. II and IV

The best answer is B. A CMO backed by 30 year mortgages might be divided into 15-30 separate tranches. As payments are received from the underlying mortgages, interest is paid pro-rata to all tranches; but principal repayments are paid sequentially to the first, then second, then third tranche, etc.

Collateralized mortgage obligation tranches that are available to the public are generally rated: A. AAA+ B. AAA C. A D. BBB

The best answer is B. CMO tranches are generally AAA rated (or have an implied AAA rating because the tranches are backed by GNMA, FNMA or Freddie Mac pass-through certificates). There is no such thing as an AAA+ rating; AAA is the highest rating available. Also note that even though Standard and Poor's downgraded Treasury Debt to an AA+ rating in the summer of 2011, Moody's and Fitch's retained their AAA ratings. For the exam, these securities are still rated AAA.

Which characteristic is NOT common to both Treasury STRIPS and Treasury Bills? A. Minimum $100 denominations B. Quoted as a percent of par in 32nds C. Pay interest at maturity D. Guaranteed by the U.S. Government

The best answer is B. Treasury Bills and STRIPS have a minimum $100 par value; are zero coupon original issue discount obligations that do not have a stated interest rate, paying interest at maturity; and are directly backed by the U.S. Government. T-STRIPS are quoted in 32nds, as are all other long term Treasuries and Agency securities. T-Bills are quoted on a discount yield basis since they are a short term money market instrument.

Which of the following is an original issue discount obligation? A. GNMA certificate B. Treasury bill C. U.S. Government bond D. FNMA bond

The best answer is B. Treasury Bills are original issue discount obligations. They are auctioned off weekly by the Federal Reserve acting as agent for the U.S. Treasury. When the bills mature, the difference between the purchase price and the redemption value at par is taxable as interest income. GNMA (Government National Mortgage Association) certificates, Treasury Bonds, and FNMA (Federal National Mortgage Association) bonds are all issued at par and make periodic interest payments.

Yields on 3 month Treasury bills have declined to 1.84% from 2.21% at the prior week's Treasury auction. This indicates that: A. Treasury bill prices are falling B. market interest rates are falling C. demand for Treasury bills is weakening D. the Federal Reserve may have to loosen credit

The best answer is B. If Treasury bill yields are dropping at auction, then interest rates are falling and debt prices must be rising.

A customer buys 5M of 6 1/4% Treasury Bonds at 100. How much interest income will the customer receive at each interest payment? A. $31.25 B. $62.50 C. $156.25 D. $312.50

The best answer is C. "5M" means that 5-$1,000 bonds are being purchased (M is Latin for $1,000). Annual interest on the bonds is 6.25% of $5,000 face amount equals $312.50. Since interest is paid twice per year, each payment will be for $156.25.

All of the following would be considered examples of derivative products EXCEPT: A. PAC tranche B. TAC tranche C. Treasury STRIP D. Companion tranche

The best answer is C. A "derivative" product is one whose value is "derived" via a "formula" from an underlying investment. Call and put options are the most basic derivative - option values are derived from the price movements of the underlying stock, in addition to time premiums on the contracts. Collateralized mortgage obligation values are derived from the underlying mortgage backed pass-through certificates held in trust by recutting the cash flows and applying them to the CMO tranches. Again, these are derived via a formula. Treasury STRIPS are not a derivative, because the value of the coupons "stripped" from the Treasury bonds is a direct correlation to the interest payments received from the underlying U.S. Government securities

All of the following statements are true about "plain vanilla" CMO tranches EXCEPT: A. each tranche has a different maturity B. each tranche has a different yield C. each tranche has a different credit rating D. each tranche has a different level of interest rate risk

The best answer is C. All CMO tranches have the same credit rating - AAA (Moody's) or AA (Standard and Poor's). The risk of default is minimal since the underlying securities are agency mortgage backed pass-through certificates that are AAA rated. Each tranche within a CMO has a different maturity and yield. Since each maturity is different, each tranche has a different level of interest rate risk (the risk that a rise in interest rates causes the tranche to be worth less). Interest rate risk is more severe for longer maturities than for shorter maturities.

All of the following issue agency securities EXCEPT: A. FNMA B. FHLMC C. FRB D. FHLB

The best answer is C. The Federal Reserve Bank does not issue bonds. Fannie Mae (FNMA) and Freddie Mac (FHLMC) issue mortgage-backed pass through certificates. The Federal Home Loan Banks (FHLB) issues short term and long term bonds.

Which CMO tranche has the least certain repayment date? A. Planned Amortization Class B. Plain Vanilla C. Companion Class D. Targeted Amortization Class

The best answer is C. Companion classes are "split off" from the Planned Amortization Class (PAC) and act as buffers absorbing prepayment and extension risk prior to this risk being applied to the PAC tranche. The PAC, which is relieved of these risks, is given the most certain repayment date. The Companion, which absorbs these risks first, has the least certain repayment date. A Targeted Amortization Class (TAC) is like a PAC, but is only buffered for prepayment risk by the Companion; it is not buffered for extension risk.

A pass through certificate is best described as a: A. corporation or trust through which investors pool their money in order to obtain diversification and professional management B. security which is backed by the full faith, credit, and taxing power of the U.S. Government C. security which is backed by real property and/or a lien on real estate D. security which gives the holder an undivided interest in a pool of mortgages

The best answer is D. 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.

Homeowners will prepay mortgages: I when interest rates fall II when interest rates rise III so they can refinance at lower rates IV so they can refinance at higher rates A. I and III B. I and IV C. II and III D. II and IV

The best answer is A. Homeowners will prepay mortgages when interest rates fall, so they can refinance at more attractive lower current rates. They tend not to prepay mortgages when interest rates rise, since there is no benefit to a refinancing.

Which Collateralized Mortgage Obligation tranche has the MOST certain repayment date? A. Planned Amortization Class B. Targeted Amortization Class C. Plain Vanilla Tranche D. Zero Tranche

The best answer is A. Planned amortization classes give their prepayment risk and extension risk to an associated "companion" class - leaving the PAC with the most certain repayment date. TACs are like a "one-sided" PAC - they protect against prepayment risk, but not against extension risk. Plain vanilla CMO tranches are subject to both risks, while zero-tranches are like "wild cards" - whatever is left over is what you get!

The Government National Mortgage Association: A. buys conventional mortgages from financial institutions for repackaging as pass through certificates B. buys FHA and VA guaranteed mortgages from financial institutions for repackaging as pass through certificates C. gives its implied backing to the payment of interest and principal on mortgages purchased from financial institutions D. issues mortgages directly on U.S. Government subsidized housing

The best answer is B. Ginnie Mae buys FHA and VA guaranteed mortgages from banks and assembles them into pools. GNMA then sells undivided interests in these pools as pass-through certificates. The monthly mortgage payments are passed through to the certificate holders. GNMA guarantees the payment of interest and principal on the underlying mortgages and has the direct backing of the U.S. Government. The agencies that have an implied U.S. Government backing are Fannie Mae and Freddie Mac.

Which of the following risks are applicable to Ginnie Mae Pass Through Certificates? I Purchasing power risk II Risk of early prepayment of mortgages if interest rates fall III Risk of default if homeowners do not make their mortgage payments IV Risk of loss of principal if interest rates rise A. III only B. I, II, III C. I, II, IV D. I, II, III, IV

The best answer is C. Ginnie Maes are guaranteed by the U.S. Government so there is no risk of default. Ginnie Mae is authorized to raid the U.S. Treasury to make up any payment shortfalls, if required. The holder of a certificate is subject to potential loss of principal if interest rates rise, since the market value of the securities will fall. The holder is also subject to early prepayment risk if interest rates drop and the homeowners prepay their mortgages. Because rates have dropped, these prepayments are now reinvested at lower current market rates.

U.S. Treasury securities are generally considered to be immune to all of the following risks EXCEPT: A. default risk B. marketability risk C. purchasing power risk D. credit risk

The best answer is C. 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.

Treasury Bills, Bonds, and Notes Date Rate Bid Ask Yield Jan 21 3 5/8 98-27 98-31 3.67 Feb 21 3 1/2 94-14 95 3.68 Feb 25 3 7/8 95-01 95-06 4.07 Feb 27 4 3/4 119-07 119-13 3.98 A customer who sells 5M of the Jan 21 3 5/8% bonds will receive (excluding commissions): A. $4,913.50 B. $4,915.50 C. $4,942.19 D. $4,948.44

The best answer is C. The bonds are sold at the bid price of 98-27 = 98 and 27/32nds = 98.84375% of $5,000 par = $4,942.19.

Which statement is TRUE about PO tranches? A. When interest rates rise, the price of the tranche falls B. When interest rates rise, the price of the tranche rises C. When interest rates rise, the interest rate on the tranche falls D. When interest rates rise, the interest rate on the tranche rises

The best answer is A. A PO is a Principal Only tranche. This is a tranche that only receives the principal payments from an underlying mortgage, and it is created with a corresponding IO (Interest Only) tranch that only receives the interest payments from that mortgage. The principal portion of a fixed rate mortgage makes smaller payments in the early years, and larger payments in the later years. Because of this payment structure, it is most similar to a long-term bond, which pays principal at the end of its life. These are issued at a deep discount to face. Its price moves just like a conventional long term deep discount bond. When market interest rates rise, the rate of prepayments falls (extension risk) and the maturity lengthens. Because the principal is being paid back at a later date, the price falls. Conversely, when market interest rates fall, the rate of prepayments rises (prepayment risk) and the maturity shortens. Because the principal is being paid back at an earlier date, the price rises.

Which CMO tranche is MOST susceptible to interest rate risk? A. Z-Tranche B. Companion Tranche C. PAC tranche D. TAC tranche

The best answer is A. A Z-tranche is a "Zero" tranche. It gets no payments until all prior tranches are retired. Then it is paid off at par. It acts like a long-term zero-coupon bond, so it is most susceptible to interest rate risk. The other tranches receive payments earlier in their life, so they are less susceptible to interest rate risk.

Collateralized mortgage obligations may be backed by all of the following securities EXCEPT: A. Real Estate Investment Trusts B. Freddie Mac Pass Through Certificates C. FNMA Pass Through Certificates D. GNMA Pass Through Certificates

The best answer is A. CMO tranches are generally AAA rated (or have an implied AAA rating because the tranches are backed by GNMA, FNMA or Freddie Mac pass-through certificates). REITs are common stock companies that make direct investments in real estate.

Which of the following statements regarding collateralized mortgage obligations are TRUE? I Each tranche has a different level of market risk II Each tranche has the same level of market risk III Each tranche has a different yield IV Each tranche has the same yield A. I and III B. I and IV C. II and III D. II and IV

The best answer is A. Each tranche of a CMO, in effect, represents a differing expected maturity, hence each tranche has a different level of market risk. Since each tranche represents a differing maturity, the yield on each will differ, as well.

Wide swings in market interest rates would affect which of the following for holders of collateralized mortgage obligations? I Prepayment Rate II Interest Rate III Market Value IV Credit Rating A. I and III B. II and IV C. I, II, III D. I, II, III, IV

The best answer is A. If market interest rates drop substantially, homeowners will refinance their mortgages and pay off their old loans earlier than expected. Thus, the prepayment rate for CMO holders will increase. Furthermore, as interest rates drop, the value of the fixed income stream received from those mortgages increases, so the market value of the security will increase. Market interest rate movements have no effect on the stated interest rate paid by the security; and would not affect the credit rating of the issue.

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: A. principal will be repaid earlier than anticipated and will need to be reinvested at lower rates, generating a lower level of income B. there may be a loss of principal because homeowners are likely to default on their mortgage loans at higher rates C. the maturity of the security is likely to extend and principal will be returned to the customer at a slower rate than anticipated D. he will be able to sell the mortgage backed securities at a large profit because of their long maturity

The best answer is A. 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.

CMO "Planned Amortization Classes" (PAC tranches): A. reduce prepayment risk to holders of that tranche B. increase prepayment risk to holders of that tranche C. eliminate prepayment risk to holders of that tranche D. have the same prepayment risk as companion classes

The best answer is A. Older CMOs are known as "plain vanilla" CMOs, because the repayment scheme is relatively simple - as payments are received from the underlying mortgages, interest is paid pro-rata to all tranches; but principal repayments are paid sequentially to the first, then second, then third tranche, etc. Thus, the earlier tranches are retired first. A newer version of a CMO has a more sophisticated scheme for allocating cash flows. Newer CMOs divide the tranches into PAC tranches and Companion tranches. The PAC tranche is a "Planned Amortization Class." Surrounding this tranche are 1 or 2 Companion tranches. Interest payments are still made pro-rata to all tranches, but principal repayments made earlier than that required to retire the PAC at its maturity are applied to the Companion class; while principal repayments made later than expected are applied to the PAC maturity before payments are made to the Companion class. Thus, the PAC class is given a more certain maturity date; while the Companion class has a higher level of prepayment risk if interest rates fall; and a higher level of so-called "extension risk" - the risk that the maturity may be longer than expected, if interest rates rise.

Which of the following is the most likely purchaser of STRIPS? A. Pension fund B. Money market fund C. Individual seeking current income D. Individual wishing to avoid purchasing power risk

The best answer is A. Pension funds and retirement accounts are the large purchasers of STRIPS. These zero-coupon bonds are purchased at a deep discount and are held to maturity to fund future retirement liabilities. There is little credit risk, because the U.S. Treasury is a top credit. There is no current income because they don't pay until maturity. They have a huge amount of purchasing power risk as a long-term zero coupon obligation, but this is not an issue if they are held to maturity. Retirement plan managers like STRIPS because they don't have to worry about reinvestment risk - there are no semi-annual interest payments to reinvest! It is an investment that can be "tucked away" for 20 or 30 years, with no further work or worry on the part of the retirement fund manager.

Which of the following are TRUE statements regarding both Treasury Bills and Treasury Receipts? I Both securities are sold at a discount II Both securities are issued by the U.S. Government III Both securities pay interest at maturity IV Both securities are money market instruments A. I and III only B. II and IV only C. I, II, III D. I, II, III, IV

The best answer is A. T-Bills mature in 52 weeks or less, while Treasury Receipts are long term bonds stripped of coupons (long term zero coupon obligations). For both, interest is paid at maturity and both trade at a discount until maturity. However, T-Bills are directly issued by the U.S. Government; Treasury Receipts were created and issued by broker-dealers who held the underlying U.S. Government securities in trust and sold off the cash flows as zero-coupon obligations. Once the Federal government started "stripping" bonds itself (in 1986) and selling them to investors, the market for broker-created T-Receipts evaporated. However, 30 year T-Receipts will trade until they all mature.

Which statements are TRUE regarding the actions of the Federal Reserve in the trading of U.S. Government Debt? I The Federal Reserve acts as a dealer II The Federal Reserve does not act as a dealer III The Federal Reserve deals directly with primary dealers IV The Federal Reserve does not deal directly with primary dealers A. I and III B. I and IV C. II and III D. II and IV

The best answer is A. 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 statements are TRUE about TIPS? I The coupon rate is less than the rate on an equivalent maturity Treasury Bond II The coupon rate is more than the rate on an equivalent maturity Treasury Bond III The coupon rate is a market approximation of the real interest rate IV The coupon rate is a market approximation of the discount rate A. I and III B. I and IV C. II and III D. II and IV

The best answer is A. 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 coupon rate on the TIPS approximates the "real interest rate" - the rate earned after factoring out inflation. If 30 year T-Bonds have a nominal yield of 4%; and the inflation rate is expected to be 1.25%; then the "real" interest rate is 2.75%. 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.

The smallest denomination available for Treasury Bills is: A. $100 B. $1,000 C. $10,000 D. $100,000

The best answer is A. The minimum denomination on a Treasury Bill is $100 maturity amount. The minimum denomination on Treasury Notes and Bonds is also $100 maturity amount. Note that this is different than the typical minimum $1,000 par amount for other debt issues.

Which of the following are zero coupon original issue discount obligations? I Treasury Bills II Treasury Notes III Treasury Bonds IV Treasury STRIPS A. I and IV only B. II and III only C. II, III, IV D. I, II, III, IV

The best answer is A. 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.

The shortest initial maturity available for Treasury Bills is: A. 4 weeks B. 13 weeks C. 26 weeks D. 52 weeks

The best answer is A. Treasury Bills are issued in initial 4 week (1 month); 13 week (3 month); 26 week (6 month); and 52 week (12 month) maturities.

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. a dollar price quoted to a 5.90 basis B. a dollar price quoted to a 6.00 basis C. $5,900 D. $6,000

The best answer is A. 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.

An investor buys a 3.25% Treasury Bond, paying interest on February 1st and August 1st, on Thursday, May 17th, regular way settlement. How many days of accrued interest are due from buyer to seller? (This is not a leap year.) A. 106 B. 107 C. 108 D. 109

The best answer is A. Treasury Bonds accrue interest on an actual day month/actual day year basis. The last interest payment was made on February 1st. Interest accrues up to, but not including settlement. Since this is regular way settlement, the trade settles next business day on Friday, May 18th. The accrued interest due is: February: 28 days March: 31 days April: 30 days May: 17 days 106 days Total Accrued Interest Due

Which statements are TRUE regarding Treasury debt instruments? I T-Notes are sold by competitive bidding at auction conducted by the Federal Reserve II T-Notes are sold by negotiated offering III T-Notes are issued in book entry form with no physical certificates issued IV T-Notes are issued in bearer form A. I and III B. I and IV C. II and III D. II and IV

The best answer is A. Treasury Notes are issued in book entry form only. No certificates are issued for book entry securities; the only ownership record is the "book" of owners kept by the transfer agent. U.S. Government debt is sold via competitive bidding at a weekly auction conducted by the Federal Reserve.

Which statements are TRUE regarding the effect of rising interest rates on CMOs? I When interest rates rise, homeowners refinance their mortgages slower than the expected rate II When interest rates rise, homeowners refinance their mortgages faster than the expected rate III When interest rates rise, repayment rates will be lower than expected, increasing extension risk IV When interest rates rise, repayment rates will be higher than expected, decreasing extension risk A. I and III B. I and IV C. II and III D. II and IV

The best answer is A. When interest rates rise, homeowners do not refinance their mortgages, and the prepayment rate will be slower than expected. Thus, the average life of pass-through certificates that represent ownership of that mortgage pool will lengthen; as will the average life of CMO tranches which are derived from those certificates (though not to the same extent). Thus, when interest rates rise, extension risk (the risk that the certificate will go longer than expected, earning a lower than market rate of return) increases.

A 5 year 3 1/2% Treasury Note is quoted at 98-4 - 98-9. 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? A. $4,906.25 B. $4,914.06 C. $4,920.00 D. $4,945.00

The best answer is B. "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 98 and 9/32nds = 98.28125% of $5,000 par = $4,914.06.

Which statements are TRUE about PO tranches? I When interest rates rise, the price of the tranche falls II When interest rates rise, the price of the tranche rises III When interest rates fall, the price of the tranche falls IV When interest rates fall, the price of the tranche rises A. I and III B. I and IV C. II and III D. II and IV

The best answer is B. A PO is a Principal Only tranche. This is a tranche that only receives the principal payments from an underlying mortgage, and it is created with a corresponding IO (Interest Only) tranche that only receives the interest payments from that mortgage. The principal portion of a fixed rate mortgage makes smaller payments in the early years, and larger payments in the later years. Because of this payment structure, it is most similar to a long-term bond, which pays principal at the end of its life. These are issued at a deep discount to face. Its price moves just like a conventional long term deep discount bond. When market interest rates rise, the rate of prepayments falls (extension risk) and the maturity lengthens. Because the principal is being paid back at a later date, the price falls. Conversely, when market interest rates fall, the rate of prepayments rises (prepayment risk) and the maturity shortens. Because the principal is being paid back at an earlier date, the price rises.

Which CMO tranche is LEAST susceptible to interest rate risk? A. Z-tranche B. Floating rate tranche C. PAC tranche D. TAC tranche

The best answer is B. A floating rate CMO tranche has an interest rate that varies, tied to the movements of a recognized interest rate index, like LIBOR. Therefore, as interest rates move up, the interest rate paid on the tranche goes up as well; and when interest rates drop, the interest rate paid on the tranche goes down as well. There is usually a cap on how high the rate can go and a floor on how low the rate can drop. Because the interest rate moves with the market, the price stays close to par - as is the case with any variable rate security.

Interest payments on Ginnie Mae pass-through certificates are made: A. weekly B. monthly C. semi-annually D. annually

The best answer is B. 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 mortgage. These certificates are self-amortizing and are completely paid off with the last mortgage payment.

Which statement is TRUE about IO tranches? A. When interest rates rise, the price of the tranche falls B. When interest rates rise, the price of the tranche rises C. When interest rates rise, the interest rate on the tranche falls D. When interest rates rise, the interest rate on the tranche rises

The best answer is B. An IO is an Interest Only tranche. This is a tranche that only receives the interest payments from an underlying mortgage, and it is created with a corresponding PO (Principal Only) tranche that only receives the principal payments from that mortgage. The interest portion of a fixed rate mortgage makes larger payments in the early years, and smaller payments in the later years. These are issued at a discount to face and each interest payment made brings the "notional principal" of the bond closer to par. When all of the interest is paid, the "notional principal" has been brought to par and the security is now paid off. The price movements of IOs are counterintuitive! Unlike regular bonds, where when interest rates rise, prices fall, with an IO, when interest rates rise, prices rise! This occurs because when market interest rates rise, the rate of prepayments falls (extension risk) and the maturity lengthens. Because interest will now be paid for a longer than expected period, the price rises. Conversely, when interest rates fall (prepayment risk) the principal is being paid back at an earlier than expected date, so less interest is being received and the price falls (if interest rates fall drastically, the holder might get less interest back than what was originally invested).

Which of the following statements are TRUE about the Federal National Mortgage Association (FNMA)? I FNMA is a publicly traded corporation II FNMA is owned by the U.S. Government III FNMA pass through certificates are guaranteed by the U.S. Government IV FNMA pass through certificates are not guaranteed by the U.S. Government A. I and III B. I and IV C. II and III D. II and IV

The best answer is B. 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.

Which of the following statements are TRUE regarding GNMA "Pass Through" Certificates? I The certificates are quoted on a percentage of par basis II The certificates are quoted on a yield basis III Accrued interest on the certificates is computed on an actual day month / actual day year basis IV Accrued interest on the certificates is computed on a 30 day month / 360 day year basis A. I and III B. I and IV C. II and III D. II and IV

The best answer is B. GNMA certificates are quoted on a percentage of par basis in 32nds. Accrued interest on "agency" securities is computed on a 30 day month / 360 day year basis. (Do not confuse this with the accrued interest on U.S. Government obligations, which is computed on an actual day month / actual day year basis).

Which of the following statements are TRUE regarding Government National Mortgage Association pass-through certificates? I GNMA securities are guaranteed by the U.S. Government II GNMA securities are not guaranteed by the U.S. Government III Reinvestment risk for GNMAs is the same as for equivalent maturity U.S. Government bonds IV Reinvestment risk for GNMAs is greater than that for equivalent maturity U.S. Government bonds A. I and III B. I and IV C. II and III D. II and IV

The best answer is B. GNMA securities are guaranteed by the U.S. Government. Reinvestment risk is greater for Ginnie Maes than for U.S. Governments. If the mortgages backing a Ginnie Mae Pass Through Certificate are prepaid (if interest rates have dropped), the certificate holders receive payments that are a return of principal, and that, when reinvested at lower current rates, produce a lower return (this is reinvestment risk). In contrast, payments received from other Treasury securities consist of interest only, so if interest rates drop over the time period these securities are held, only the interest must be reinvested at lower rates; there is no principal return that must be reinvested until maturity.

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. If a customer buys 5 T-Notes on Monday, Mar. 31st in a regular way trade, how many days of accrued interest are owed to the seller? (It is not a leap year.) A. 89 B. 90 C. 95 D. 96

The best answer is B. Interest accrues on U.S. Government securities on an actual day month/actual day year basis. Settlement is next business day, with interest accruing up to but not including, settlement date. Thus, the interest due is 31 days for Jan, 28 days for Feb, and 31 days for Mar (settlement is on Apr 1st). Total days of accrued interest are 90.

Which statements are TRUE when comparing PAC CMO tranches to "plain vanilla" CMO tranches? I Holders of PAC CMO tranches have lower prepayment risk II Holders of PAC CMO tranches have higher prepayment risk III Holders of "plain vanilla" CMO tranches have lower prepayment risk IV Holders of "plain vanilla" CMO tranches have higher prepayment risk A. I and III B. I and IV C. II and III D. II and IV

The best answer is B. Older CMOs are known as "plain vanilla" CMOs, because the repayment scheme is relatively simple - as payments are received from the underlying mortgages, interest is paid pro-rata to all tranches; but principal repayments are paid sequentially to the first, then second, then third tranche, etc. Thus, the earlier tranches are retired first. A newer version of a CMO has a more sophisticated scheme for allocating cash flows. Newer CMOs divide the tranches into PAC tranches and Companion tranches. The PAC tranche is a "Planned Amortization Class." Surrounding this tranche are 1 or 2 Companion tranches. Interest payments are still made pro-rata to all tranches, but principal repayments made earlier than that required to retire the PAC at its maturity are applied to the Companion class; while principal repayments made later than expected are applied to the PAC maturity before payments are made to the Companion class. Thus, the PAC class is given a more certain maturity date; while the Companion class has a higher level of prepayment risk if interest rates fall; and a higher level of so-called "extension risk" - the risk that the maturity may be longer than expected, if interest rates rise.

Which of the following statements are TRUE when comparing the "Planned Amortization Classes" (PAC tranches) to the Companion Classes of a CMO? I Principal repayments made later than expected are applied to the PAC class prior to being applied to the Companion II Principal repayments made later than expected are applied to the Companion class prior to being applied to the PAC III The PAC has a higher level of extension risk if interest rates rise IV The Companion class has a higher level of extension risk if interest rates rise A. I and III B. I and IV C. II and III D. II and IV

The best answer is B. Principal repayments made earlier than that required (earlier than expected) to retire the PAC at its maturity are applied to the Companion class; while principal repayments made later than expected are applied to the PAC maturity before payments are made to the Companion class. Thus, the PAC class is given a more certain maturity date; while the Companion class has a higher level of prepayment risk if interest rates fall; and a higher level of so-called "extension risk" - the risk that the maturity may be longer than expected, if interest rates rise.

The collateral backing private CMOs consists of: A. private placements offered under Regulation D B. mortgage backed securities created by a bank-issuer C. mortgage backed securities issued by a "privatized" government agency D. mortgages on privately owned homes and apartments

The best answer is B. Private CMOs (Collateralized Mortgage Obligations) are also called "private label" CMOs. Instead of being backed by mortgages guaranteed by Fannie, Freddie or Ginnie, they are backed by "private label" mortgages - meaning mortgages that do not qualify for sale to these agencies (either because the dollar amount of the mortgage is above their purchase limit or they do not meet Fannie, Freddie or Ginnie's underwriting standards). Bank issuers make non-conforming mortgages that cannot be sold to Fannie, Freddie or Ginnie and rather than hold them as investments, they can pool them into mortgage backed securities which are then placed into trust and sold as private label CMOs.

Series EE bonds: A. are issued at a discount to face B. are redeemed at par plus interest earned C. pay interest semi-annually D. are actively traded in the secondary market

The best answer is B. 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 (a bank can act as agent for the Treasury issuing and redeeming Series EE bonds). No physical certificates are issued - the bonds are issued in electronic form.

Which of the following are TRUE statements regarding Treasury Bills? I T-Bills are registered in the owner's name in book entry form II T-Bills are issued in bearer form in the United States III T-Bills are callable at any time IV T-Bills are issued at a discount A. I and III B. I and IV C. II and III D. II and IV

The best answer is B. T-Bills are registered in the owner's name in book entry form only; no bearer securities can currently be issued in the U.S. to individual residents. T-Bills are original issue discount obligations and are not callable, since they are short term.

What type of bond offers a "pure" interest rate? A. Zero coupon bond B. U.S. Government bond C. Municipal bond D. AAA rated bond

The best answer is B. The "pure" interest rate is a theoretical interest rate that will be paid when there is no marketability risk and no credit risk. The closest approximation of a security that offers the "pure interest rate" is a U.S. Government obligation. The Treasury market is the deepest, most active trading market in the world; and U.S. Government securities are considered to be free of credit risk. Also note that a "better" answer that is not given in the question is a T-Bill. This security is considered to be free of credit risk; free of market risk; and is also free of interest rate risk. But you must select the "best" of the choices offered!

Which statements are TRUE when comparing Treasury Notes to Treasury STRIPS? I Treasury Notes pay interest semi-annually II Treasury Notes pay interest at maturity III Treasury STRIPS pay interest semi-annually IV Treasury STRIPS pay interest at maturity A. I and III B. I and IV C. II and III D. II and IV

The best answer is B. Treasury Notes are government obligations maturing between 1 year and 10 years which pay interest semi-annually. Treasury STRIPS are notes or bonds "stripped" of coupons, meaning all that is left is the principal repayment portion of the note or bond (sometimes called the "corpus" or body). STRIPS are zero coupon original issue discount obligations that do not have a stated interest rate. The accretion of the discount over the bond's life represents the interest earned.

Which of the following statements about Treasury STRIPS are TRUE? I Treasury STRIPS are susceptible to purchasing power risk II Treasury STRIPS are not susceptible to purchasing power risk III Treasury STRIPS are subject to reinvestment risk IV Treasury STRIPS are not subject to reinvestment risk A. I and III B. I and IV C. II and III D. II and IV

The best answer is B. Treasury STRIPS are government bonds that are "stripped" of coupons. They do not provide current income. This is a long term zero coupon obligation with a "locked in" rate of return over the life of the bond (thus, it is not subject to reinvestment risk). However, it is subject to purchasing power risk - if market interest rates rise, its value declines (sharply, as a long term zero coupon obligation).

Which statements are TRUE about PO tranches? I Payments are larger in the early years II Payments are smaller in the early years III Payments are larger in the later years IV Payments are smaller in the later years A. I and III B. I and IV C. II and III D. II and IV

The best answer is C. A PO is a Principal Only tranche. This is a tranche that only receives the principal payments from an underlying mortgage, and it is created with a corresponding IO (Interest Only) tranche that only receives the interest payments from that mortgage. The principal portion of a fixed rate mortgage makes smaller payments in the early years, and larger payments in the later years. Because of this payment structure, it is most similar to a long-term bond, which pays principal at the end of its life. These are issued at a deep discount to face. Its price moves just like a conventional long term deep discount bond. When market interest rates rise, the rate of prepayments falls (extension risk) and the maturity lenghtens. Because the principal is being paid back at a later date, the price falls. Conversely, when market interest rates fall, the rate of prepayments rises (prepayment risk) and the maturity shortens. Because the principal is being paid back at an earlier date, the price rises.

When comparing a PAC tranch to a TAC tranche: I TAC tranches have the same level of prepayment risk II TAC tranches have the same level of extension risk III TAC tranches have a higher level of prepayment risk IV TAC tranches have a higher level of extension risk A. I and II B. III and IV C. I and IV D. II and III

The best answer is C. Companion classes are "split off" from the Planned Amortization Class (PAC) and act as buffers absorbing prepayment and extension risk prior to this risk being applied to the PAC tranche. The PAC, which is relieved of these risks, is given the most certain repayment date. The Companion, which absorbs these risks first, has the least certain repayment date. A Targeted Amortization Class (TAC) is like a PAC, but is only buffered for prepayment risk by the Companion; it is not buffered for extension risk. Thus, A TAC has the same level of prepayment risk as the PAC; but the TAC has a higher level of extension risk than the PAC.

Arrange the following CMO tranches from highest to lowest yield: I Plain vanilla II Targeted amortization class III Planned amortization class IV Companion A. I, II, III, IV B. IV, III, II, I C. IV, I, II, III D. II, III, IV, I

The best answer is C. Companion tranches are the "shock absorber" tranches, that absorb prepayment risk out of a TAC (Targeted Amortization Class) tranche; or both prepayment risk and extension risk out of a PAC (Planned Amortization Class) tranche. Because the companion absorbs both of these risks, it has the greatest risk and trades at the highest yield. A Plain Vanilla tranche is not relieved of either extension risk or prepayment risk, so it will offer a yield that is higher than a PAC or a TAC, but lower than the yield on a companion. A TAC is only relieved of prepayment risk, so its yield will be lower than a Plain Vanilla tranche. However, the TAC yield will be higher than the yield on a PAC, which is relieved of both extension and prepayment risk, while the TAC is only relieved of prepayment risk.

Which of the following trades settle in "Fed" funds? I General Obligation Bonds II U.S. Government Bonds III Agency Bonds A. I only B. I and II C. II and III D. I, II, III

The best answer is C. 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. 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.

Which of the following statements describe Freddie Mac? I Freddie Mac buys conventional mortgages from financial institutions II Freddie Mac is an issuer of mortgage backed pass-through certificates III Freddie Mac is a corporation that is publicly traded IV Freddie Mac debt issues are directly guaranteed by the U.S. Government A. I and II only B. III and IV only C. I, II, III D. I, II, III, IV

The best answer is C. Freddie Mac - Federal Home Loan Mortgage Corporation - buys conventional mortgages from financial institutions and packages them into 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. Freddie Mac 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).

All of the following statements are true about GNMA and FNMA securities EXCEPT: A. GNMA and FNMA make a secondary market in mortgages B. GNMA and FNMA issue pass through certificates C. GNMA and FNMA pass through certificates are directly backed by the U.S. Government D. GNMA and FNMA pass through certificates pay interest and principal monthly

The best answer is C. GNMA and FNMA buy mortgages from originating lenders; pool them and issue pass through certificates to the public that represent an undivided interest in the underlying mortgage pool. These securities pay interest and principal on a monthly basis. Only GNMA - Government National Mortgage Association - issues pass through certificates that are directly backed by the U.S. Government. FNMA - Federal National Mortgage Association - also issues pass through certificates, but these are implicitly backed - not directly backed.

Which statements are TRUE regarding Government National Mortgage Association pass-through certificates? I GNMA securities are insured by the FDIC II Dealers typically quote GNMA securities at 50 basis points over equivalent maturity U.S. Government Bonds III Credit risk for GNMAs is the same as for equivalent maturity U.S. Government Bonds IV Reinvestment risk for GNMAs is the same as for equivalent maturity U.S. Government Bonds A. I and II only B. III and IV only C. II and III only D. I, II, III, IV

The best answer is C. GNMA securities are not insured by the Federal Deposit Insurance Corporation (making Choice I incorrect) - they are guaranteed by the U.S. Government (making Choice III correct). 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.

A mortgage backed security's "PSA" stands for: A. Pass-through standardization assumption B. Projected standardized amortization C. Prepayment speed assumption D. Principal securitization amount

The best answer is C. Mortgage backed pass-through certificates are "paid off" in a shorter time frame than the full life of the underlying mortgages. For example, 30 year mortgages are now typically paid off in 10 years - because people move. This "prepayment speed assumption" is used to "guesstimate" the expected life of a mortgage backed pass-through certificate. Note, however, that the "PSA" can change over time. If interest rates fall rapidly after the mortgage is issued, prepayment rates speed up; if they rise rapidly after issuance, prepayment rates fall.

Which of the following statements are TRUE when comparing "Planned Amortization Classes" (PAC tranches) to the Companion Classes of a CMO? I Principal repayments made earlier than expected are applied to the PAC class prior to being applied to the Companion II Principal repayments made earlier than expected are applied to the Companion class prior be being applied to the PAC III The PAC has a more certain maturity date IV The Companion class has a more certain maturity date A. I and III B. I and IV C. II and III D. II and IV

The best answer is C. Principal repayments made earlier than that required (earlier than expected) to retire the PAC at its maturity are applied to the Companion class; while principal repayments made later than expected are applied to the PAC maturity before payments are made to the Companion class. Thus, the PAC class is given a more certain maturity date; while the Companion class has a higher level of prepayment risk if interest rates fall; and a higher level of so-called "extension risk" - the risk that the maturity may be longer than expected, if interest rates rise.

Which investment gives the greatest protection against purchasing power risk? A. 10 year Double Barreled Bonds B. 10 year Guaranteed Bonds C. 10 year TIPS D. 10 year STRIPS

The best answer is C. Purchasing power risk is the risk that inflation will cause interest rates to increase; and therefore, bond prices will fall. Since all of the choices have the same maturity, this is not a factor. "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.

The Federal Reserve Board is: I a primary purchaser of Treasury securities II not a primary purchaser of Treasury securities III an active participant in the secondary market for Treasury securities IV not an active participant in the secondary market for Treasury securities A. I and III B. I and IV C. II and III D. II and IV

The best answer is C. The Federal Reserve Board is not a primary purchaser of Treasury securities - it does not bid at the weekly Treasury auction - only the primary dealers are required to bid. However, it does trade them in the secondary market to influence the availability of credit.

Which statements are TRUE regarding collateralized mortgage obligations? I CMOs are backed by agency pass-through securities held in trust II CMOs have investment grade credit ratings III CMOs give the holder a limited form of call protection that is not present in regular pass-through obligations IV CMOs are issued by government agencies A. I and II only B. III and IV only C. I, II, III D. I, II, III, IV

The best answer is C. The first 3 statements are true. Collateralized mortgage obligations are backed by mortgage pass-through certificates that are held in trust. The underlying mortgage backed pass-through certificates are issued by agencies such as FNMA, GNMA and FHLMC, all of whom have an "AAA" (Moody's or Fitch's) or "AA" (Standard and Poor's) credit rating. The CMO takes on the credit rating of the underlying collateral. CMOs take the payment flow from the underlying pass-through certificates and allocate them to so-called "tranches." A CMO backed by 30 year mortgages might be divided into 15-30 separate tranches. As payments are received from the underlying mortgages, interest is paid pro-rata to all tranches; but principal repayments are paid sequentially to the first, then second, then third tranche, etc. Thus, the earlier tranches are retired first. The CMO purchaser buys a specific tranche. Because of the sequencing of principal repayments from the underlying mortgages, the holder has a more definite maturity date on the issue, as compared to actually buying a mortgage backed pass-through certificate. This is true because prepayments on pass-through certificates are allocated pro-rata. During periods of falling rates, all certificate holders receive their share of those repayments pro-rata. The holder of a specific tranche of a CMO will only receive prepayments after all earlier tranche holders are repaid. Thus, CMOs give holders a form of "call protection" not available in regular pass-through certificates. CMOs are not issued by government agencies; the agency issues the underlying pass-through certificates. CMOs are packaged and issued by broker-dealers.

Which of the following statements are TRUE regarding the trading of government and agency bonds? I The securities are quoted by dealers in 1/8ths II The securities are quoted by dealers in 1/32nds III The trading market for governments and agencies is active IV The trading market for governments and agencies is inactive A. I and III B. I and IV C. II and III D. II and IV

The best answer is C. The government obligation trading market is the deepest and most active market in the world. Due to the great trading activity, dealers trade the securities at very narrow spreads, quoting them in 32nds (as opposed to corporate securities that are quoted in 1/8ths).

Which of the following statements are TRUE regarding the trading of government and agency bonds? I Trading is performed by primary and secondary dealers II Trading is performed by the Federal Reserve III The trading market is active IV Trading takes place on the New York Stock Exchange A. I and III only B. II and IV only C. I, II, III D. I, II, III, IV

The best answer is C. 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 unregulated - these are exempt securities under the Securities laws, however the Federal Reserve does exert influence over the primary dealers. Trading of Government and agency obligations does not take place on the New York Stock Exchange. Almost the entire debt market (Treasuries, Corporates, Municipals) takes place over-the-counter.

If interest rates rise, which of the following U.S. Government debt instruments would show the greatest percentage drop in value? A. Treasury Bills B. Treasury Notes C. Treasury Bonds D. Savings (EE) Bonds

The best answer is C. The longer the maturity, the more volatile the price movements of the bond as interest rates move. The longest maturity listed here is T-Bonds. Savings bond prices are not affected by interest rate movements. These are non-negotiable instruments that are not traded - instead they are redeemable with the government at any time.

The physical securities which are the underlying collateral for Treasury Receipts can be which of the following? I Treasury Bills II Treasury Notes III Treasury Bonds IV Series EE Bonds A. I and II only B. III and IV only C. II and III only D. I, II, III, IV

The best answer is C. The physical securities which are held in trust against the issuance of Treasury Receipts are either Treasury Notes or Treasury Bonds. Series EE bonds cannot be used because they are non-marketable. T-Bills cannot be used because their maturity is too short.

A customer buys a U.S. Government bond on Friday, June 14th in a regular way trade. The trade settles on: A. Friday, June 14th B. Saturday, June 15th C. Monday, June 17th D. Tuesday, June 18th

The best answer is C. 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

A customer buys a $1,000 par Treasury Inflation Protection security with a 4% coupon and a 10 year maturity. If the inflation rate during the first year of the security's life is 5%, the: I coupon rate is adjusted to 9% II coupon rate remains at 4% III principal amount is adjusted to $1,050 IV principal amount remains at $1,000 A. I and III B. I and IV C. II and III D. II and IV

The best answer is C. 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. Thus, there is no purchasing power risk with these securities.

Which of the following trade "flat" ? I Treasury Bills II Treasury STRIPS III Treasury Bonds IV Treasury Receipts A. I and II only B. III and IV only C. I, II, IV D. I, II, III, IV

The best answer is C. Treasury Bills are short term original issue discount obligations, with the discount earned being the "interest". Treasury Receipts and Treasury STRIPS are essentially 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 they trade with accrued interest.

Which of the following statements are TRUE about CMOs in a period of rising interest rates? I CMO prices fall slower than similar maturity regular bond prices II CMO prices fall faster than similar maturity regular bond prices III The expected maturity of the CMO will lengthen due to a slower prepayment rate than expected IV The expected maturity of the CMO will lengthen due to a faster prepayment rate than expected A. I and III B. I and IV C. II and III D. II and IV

The best answer is C. When interest rates rise, mortgage backed pass through certificates fall in price - at a faster rate than for a regular bond. This is true because when the certificate was purchased, assume that the expected life of the underlying 15 year pool (for example) was 12 years. Thus, the certificate was priced as a 12 year maturity. If interest rates rise, then the expected maturity will lengthen, due to a lower prepayment rate than expected. If the maturity lengthens, then for a given rise in interest rates, the price will fall faster.

All of the following statements regarding collateralized mortgage obligations are true EXCEPT: A. varying maturities are available to meet a wide variety of investor needs B. in some issues, investors may choose between PAC and TAC tranches, aside from regular tranches C. differing tranches will be offered at differing yields D. each tranche has the same level of market risk

The best answer is D. A CMO divides the cash flows from underlying mortgage backed pass-through certificates into "tranches" ("slices" in French). Each tranche, in effect, represents a differing expected maturity, hence each tranche has a different level of market risk. Since each tranche represents a differing maturity, the yield on each will differ. New CMOs have special classes of tranches called PAC (Planned Amortization Class) and TAC (Targeted Amortization Class) tranches. These tranches are given a greater certainty of repayment at the projected date, by allocating earlier than expected repayments to so-called "companion" tranches, before prepayments are applied to these tranches.

Which of the following statements are TRUE about CMOs? I CMO issues have a serial structure II CMO issues are rated AAA III CMO issues are more accessible to individual investors than regular pass-through certificates IV CMO issues have a lower level of market risk than regular pass-through certificates A. I and II only B. III and IV only C. I, II, III D. I, II, III, IV

The best answer is D. All of the statements are true about CMOs. CMOs have a lower level of market risk (risk of price volatility due to movements in market interest rates) than do mortgage backed pass-through certificates. Because CMO issues are divided into tranches, each specific tranche has a more certain repayment date, as compared to owning a mortgage backed pass-through certificate. Thus, the price movement of that specific tranche, in response to interest rate changes, more closely parallels that of a regular bond with a fixed repayment date. As interest rates rise, CMO values fall; as interest rates fall, CMO values rise. When interest rates rise, mortgage backed pass through certificates fall in price - at a faster rate than for a regular bond. This is true because when the certificate was purchased, assume that the average life of the underlying 15 year pool (for example) was 12 years. Thus, the certificate was priced as a 12 year maturity. If interest rates rise, then the average maturity will lengthen, due to a lower prepayment rate than expected. If the maturity lengthens, then for a given rise in interest rates, the price will fall faster. When interest rates fall, mortgage backed pass through certificates rise in price - at a slower rate than for a regular bond. This is true because when the certificate was purchased, assume that the average life of the underlying 15 year pool (for example) was 12 years. Thus, the certificate was priced as a 12 year maturity. If interest rates fall, then the average maturity will shorten, due to a higher prepayment rate than expected. If the maturity shortens, then for a given fall in interest rates, the price will rise slower. CMOs have a serial structure since they are divided into 15 - 30 maturities known as tranches; CMOs are rated AAA; and CMOs are more accessible to individual investors since they have $1,000 minimum denominations as compared to $25,000 for pass-through certificates.

CDO tranches: I have underlying mortgage collateral that is backed by Fannie Mae, Freddie Mac or Ginne Mae II have underlying mortgage collateral that is backed only by the credit quality of those mortgages III are all rated AAA IV are rated based on the credit quality of the underlying mortgages A. I and III B. I and IV C. II and III D. II and IV

The best answer is D. CDOs - Collateralized Debt Obligations - are structured products that invest in CMO tranches (and they can also invest in other debt obligations that provide cash flows). They are used to create tranches with different risk/return characteristics - so a CDO will have higher risk tranches holding lower quality collateral and lower risk tranches holding higher quality collateral. The housing bubble that ended badly in 2008 with a market crash was fueled by massive issuance of sub-prime mortgages to unqualified home buyers, that were then packaged into CDOs and sold to unwitting institutional investors who relied on the credit rating assigned by S&P or Moodys. These credit ratings agencies really did not understand the complex structure of CDOs and how risky their collateral was (sub-prime mortgage loans that were often "no documentation liar loans"). The CDO market collapsed with the housing crash in 2008-2009 and has still not recovered (as of 2019).

CMO Targeted Amortization Classes (TACs) have: A. lower prepayment risk, but the same extension risk as a Planned Amortization Class B. higher prepayment risk, but the same extension risk as a Planned Amortization Class C. the same level of prepayment risk but a lower level of extension risk than a Planned Amortization Class D. the same level of prepayment risk but a higher level of extension risk than a Planned Amortization Class

The best answer is D. Companion classes are "split off" from the Planned Amortization Class (PAC) and act as buffers absorbing prepayment and extension risk prior to this risk being applied to the PAC tranche. The PAC, which is relieved of these risks, is given the most certain repayment date. The Companion, which absorbs these risks first, has the least certain repayment date. A Targeted Amortization Class (TAC) is like a PAC, but is only buffered for prepayment risk by the Companion; it is not buffered for extension risk. Thus, a TAC has the same level of prepayment risk as the PAC; but the TAC has a higher level of extension risk than the PAC.

All of the following statements are true about the Federal National Mortgage Association Pass-Through Certificates EXCEPT: A. FNMA is a publicly traded company B. interest payments are subject to state and local tax C. certificates are issued in minimum units of $25,000 D. the credit rating is considered the highest of any agency security

The best answer is D. 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.

All of the following statements describe Freddie Mac EXCEPT: A. Freddie Mac buys conventional mortgages from financial institutions B. Freddie Mac is an issuer of mortgage backed pass-through certificates C. Freddie Mac is a corporation that is publicly traded D. Freddie Mac debt issues are directly guaranteed by the U.S. Government

The best answer is D. Freddie Mac - Federal Home Loan Mortgage Corporation - buys conventional mortgages from financial institutions and packages them into pass through certificates. Freddie Mac 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 statements are TRUE about the Government National Mortgage Association Pass-Through Certificates? I GNMA is empowered to borrow from the Treasury to pay interest and principal if necessary II Interest payments are taxable at the Federal, State and Local levels III Certificates are issued in minimum units of $25,000 IV The credit rating is considered the highest of any agency security A. I and II B. I and III C. II, III, IV D. I, II, III, IV

The best answer is D. 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 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 Ginnie Mae mutual fund instead.

Which of the following statements are TRUE regarding CMOs? I CMOs make payments to holders monthly II CMOs receive the same credit rating as the underlying pass-through securities held in trust III CMOs are subject to a lower level of prepayment risk than the underlying pass-through certificates IV CMOs are available in $1,000 denominations A. II, III, IV B. I, II, IV C. I, III, IV D. I, II, III, IV

The best answer is D. Most CMOs make payments to holders monthly; though there are some issues that pay quarterly or semi-annually. CMOs are subject to a lower degree of prepayment risk than the underlying pass-through certificates. During periods of falling interest rates, prepayments of mortgages in a pool are applied pro-rata to all holders of pass-through certificates. CMOs divide the cash flows into "tranches" of varying maturities; and apply prepayments sequentially to the tranches in order of maturity. Thus, prepayments are applied to earlier tranches first, so the actual date of repayment of the tranche is known with more certainty. CMOs receive the same credit rating (AAA or AA) as the underlying mortgage backed pass-through certificates held in trust. CMOs are available in $1,000 denominations, as opposed to pass-through certificates that are $25,000 denominations. This makes CMOs more accessible to small investors.

Which statements are TRUE about private CMOs? I The CMO is backed by mortgage backed securities issued by Ginnie Mae, Fannie Mae or Freddie Mac II The CMO is backed by mortgage backed securities created by a bank-issuer III The CMO is rated AAA IV The CMO is rated dependent on the credit quality of the mortgages underlying mortgage backed pass through securities held in trust A. I and III B. I and IV C. II and III D. II and IV

The best answer is D. Private CMOs (Collateralized Mortgage Obligations) are also called "private label" CMOs. Instead of being backed by mortgages guaranteed by Fannie, Freddie or Ginnie, they are backed by "private label" mortgages - meaning mortgages that do not qualify for sale to these agencies (either because the dollar amount of the mortgage is above their purchase limit or they do not meet Fannie, Freddie or Ginnie's underwriting standards). Bank issuers make non-conforming mortgages that cannot be sold to Fannie, Freddie or Ginnie and rather than hold them as investments, they can pool them into mortgage backed securities which are then placed into trust and sold as private label CMOs. Whereas CMOs backed by Fannie, Freddie or Ginnie mortgage-backed securities are rated AAA, the rating of "private label" CMOs is dependent on the credit quality of the underlying mortgages.

A 5 year $1,000 par 3 1/2% Treasury Note is quoted at 98-4 - 98-9. The note pays interest on Jan 1st and Jul 1st. A customer buys 1 note at the ask price. What is the current yield, disregarding commissions? A. 3.26% B. 3.36% C. 3.46% D. 3.56%

The best answer is D. The bond is purchased at 98 and 9/32nds = 98.28125% of $1,000 = $982.8125. The formula for current yield is: Annual Income / Market Price = Current Yield .035 / $1,000 = 35 .9828125 * 1000 = 982.8125 35 / 982.8125 = 3.56%

The largest participants in the trading of U.S. Government debt include: I Domestic money center banks II Foreign money center banks III Domestic Broker-Dealers IV Foreign Broker-Dealers A. I and II only B. III and IV only C. I and III only D. I, II, III, IV

The best answer is D. Trading of government and agency securities takes place in the over-the-counter market. The participants include large commercial banks, foreign banks, U.S. Government securities dealers, full service broker firms, and the Federal Reserve.

Which of the following statements are TRUE regarding Treasury Bills? I T-Bills are original issue discount obligations II T-Bills are auctioned off weekly by the Federal Reserve III When T-Bills mature, the difference between the purchase price and the redemption price is taxable as interest income IV Treasury Bills are a direct obligation of the U.S. Government A. I and III only B. II and IV only C. I, II, III D. I, II, III, IV

The best answer is D. Treasury Bills are original issue discount obligations. They are auctioned off weekly by the Federal Reserve acting as agent for the U.S. Treasury. When the bills mature, the difference between the purchase price and the redemption value at par is taxable as interest income. T-Bills are a direct obligation of the U.S. Government.

All of the following are true statements about Treasury STRIPS EXCEPT: A. the investor's interest rate is locked in at purchase, eliminating any reinvestment risk B. at maturity, there is no capital gain C. the income is accreted and taxed annually D. these are suitable investments for individuals seeking current income and a high level of safety

The best answer is D. Treasury STRIPS are government bonds that are "stripped" of coupons. They do not provide current income. The discount on the bonds must be accreted annually, with the annual accretion amount being taxable as interest income. As the bond is accreted, its cost basis is adjusted upwards so that at maturity, the bond has an adjusted cost basis of par. Therefore, no taxable capital gain is realized at maturity. This is a zero coupon obligation with a "locked in" rate of return over the life of the bond.

Which of the following investments is issued with a stated coupon rate and with a maximum maturity of 30 years? A. Treasury Notes B. Treasury Stock C. Treasury Strips D. Treasury Bonds

The best answer is D. Treasury bonds are government obligations issued with initial 30 year maturities which pay interest semi-annually.

CMOs are often quoted on a yield spread basis to similar maturity: A. U.S. Government bonds B. Corporate bonds C. Municipal bonds D. Any of the above

The best answer is A. Often CMO tranches are quoted on a "yield spread" basis to equivalent maturing Treasury issues, since these are the "benchmark issues" against which yields for other debt instruments are measured.

Interest received from all of the following securities is exempt from state and local taxes EXCEPT: A. Fannie Mae Pass Through Certificates B. Treasury Notes C. Federal Farm Credit Funding Corporation Bonds D. Federal Home Loan Bank Bonds

The best answer is A. The interest income from direct issues of the U.S. Government and most agency obligations is subject to federal income tax but is exempt from state and local tax. An exception is the interest income received from mortgage backed pass through certificates (issued by GNMA, FNMA, FHLMC). This interest income is subject to both federal income tax and state and local tax. The logic behind this tax treatment is that the mortgage interest paid by the homeowners was fully deductible from both federal, state, and local taxes. When this interest is received by the certificate holder, both the federal and state government want to recapture this interest income and tax it.

A 15 year 3 1/4% Treasury Bond is quoted at 100-12 - 100-16. The bond pays interest on Jan 1st and Jul 1st. A customer sells 5M of the bonds. Approximately how much will the customer receive, disregarding commissions and accrued interest? A. $5,006.00 B. $5,018.75 C. $5,025.00 D. $5,028.75

The best answer is B. "5M" means that the customer is selling $5,000 par value of the bonds (M is Latin for $1,000). The customer sells to the dealer at the bid price, which is 100 and 12/32nds = 100.375% of $5,000 par = $5,018.75.

CMOs are: I available in $1,000 denominations II available in $25,000 denominations III quoted in 1/8ths IV quoted in 1/32nds A. I and III B. I and IV C. II and III D. II and IV

The best answer is B. CMOs are available in $1,000 denominations unlike the underlying pass-through certificates which are available only in $25,000 denominations. CMOs are quoted in 32nds, similar to the underlying pass-through certificates. Often CMO tranches are quoted on a "yield spread" basis to equivalent maturing Treasury issues.

Which statement is TRUE regarding the tax treatment of the annual adjustment to the principal amount of a Treasury Inflation Protection Security? A. An annual upward adjustment due to inflation is taxable in that year; an annual downward adjustment due to deflation is not tax deductible in that year. B. An annual upward adjustment due to inflation is taxable in that year; an annual downward adjustment due to deflation is tax deductible in that year. C. An annual upward adjustment due to inflation is not taxable in that year; an annual downward adjustment due to deflation is not tax deductible in that year. D. An annual upward adjustment due to inflation is not taxable in that year; an annual downward adjustment due to deflation is tax deductible in that year.

The best answer is B. If the principal amount of a Treasury Inflation Protection Security is adjusted upwards due to inflation, the adjustment amount is taxable in that year as ordinary interest income. Conversely, if the principal amount of a Treasury Inflation Protection Security is adjusted downwards due to deflation, the adjustment is tax deductible in that year against ordinary interest income. (TIPS are usually purchased in tax qualified retirement plans that are tax-deferred. This avoids having to pay tax each year on the upwards principal adjustment.)

The interest income earned from which of the following is subject to state and local tax? I Federal Farm Credit Funding Corporation Note II Real Estate Investment Trust III Ginnie Mae Certificate IV Fannie Mae Certificate A. I only B. III and IV only C. II, III, IV D. I, II, III, IV

The best answer is C. The interest income on U.S. Government obligations and most agency obligations is subject to Federal income tax but is exempt from state and local tax. This is the tax status for Federal Farm Credit Funding Corporation notes. However, the interest income on mortgage pass through certificates issued by Fannie Mae and Ginnie Mae is fully taxable. Income from REITs, since they are corporate securities, is fully taxable as well.

A $1,000 par Treasury Note is quoted at 100-1 - 100-9. The spread is: A. $.025 per $1,000 B. $.25 per $1,000 C. $2.50 per $1,000 D. $25 per $1,000

The best answer is C. The spread between the bid and ask is 8/32nds. Remember, government and agency securities are quoted in 32nds (with the exception of T-Bills, quoted on a yield basis). 8/32nds = 1/4th = .25% of $1,000 par = $2.50.

The interest received from a Collateralized Mortgage Obligation is subject to: A. Federal income tax only B. State income tax only C. Local income tax only D. Federal, State and Local income tax

The best answer is D. The securities underlying CMOs are GNMA or FNMA mortgage backed pass-through certificates. The interest on these securities is subject to both Federal and State and Local income tax; hence CMOs are taxed in the same manner.

Treasury notes and bonds are: A. bearer securities B. registered to interest only C. registered to principal only D. fully registered in book entry form

The best answer is D. Treasury Bills, Notes and Bonds are only available in book entry form.

Which of the following statements are TRUE about Treasury Receipts? I The investor "locks in" a rate of return that is free from reinvestment risk if the Receipt is held to maturity II The underlying bonds are held by a trustee for the beneficial owners III The interest income on the Receipts is subject to Federal income tax annually IV The Receipts are issued by broker-dealers, who maintain a secondary market in these securities A. III and IV only B. I, II, III C. I, II, IV D. I, II, III, IV

The best answer is D. Treasury Receipts represent an undivided interest in a portfolio of U.S. Government securities held by a trustee. The portfolio is assembled by a broker-dealer, who sells "receipts" representing ownership of the interest. Each receipt is, essentially, a zero-coupon obligation, that is purchased at a discount, and which is redeemable at par at a pre-set date. Thus, there is no reinvestment risk, since semi-annual interest payments are not received. The implicit rate of return is locked-in when the security is purchased, and the customer will earn that rate of return if the security is held to maturity. The annual accretion amount is taxable, since the underlying securities are U.S. Governments. At maturity, the receipt will have an adjusted cost basis of par, and will be redeemed at par, for no capital gain or loss. There are no new T-Receipt issues coming to market. Once the Treasury started issuing STRIPS in 1986, there was no need for the "middleman" anymore. However, T-Receipts still trade until they all mature.