Reading 63: Overview of Bond Sectors and Instruments-LOS c 习 2011, statements, following, principal, separate

1215

Session 15: Fixed Income: Basic Concepts
Reading 63: Overview of Bond Sectors and Instruments

LOS c: Describe how stripped Treasury securities are created and distinguish between coupon strips and principal strips.

 

 

Which of the following statements about the taxation of separate trading of registered interest and principal of securities (STRIPS) is NOT correct?

A) Implicit interest taxation is a paramount issue for pension plans.

B) The STRIPS program began in 1985.

C) Treasury STRIPS can be based upon either coupon payments or principalpayments.

---

 

Pension plans are not taxable entities so they do not have to worry about implicit interest taxation. Both of the other statements are true.

1215

Which of the following statements regarding separate trading of registered interest and principal of securities (STRIPS) is CORRECT? A 20-year Treasury bond can be used as the basis for:

A) 40 principal strips and 1 coupon strip.

B) 40 coupon strips and 1 principal strip.

C) 41 coupon strips.

---

A 20-year Treasury bond can be used as the basis for 40 coupon strips and 1 principal strip.

1215

Which of the following refers to the U.S. Treasury bonds that are sold in the form of zero-coupon securities?

A) Treasury calls.

B) Strip-Ts.

C) Pass-throughs.

---

The U.S. Treasury does not issue zero coupon notes and bonds, therefore investment bankers began stripping the coupons from Treasuries to create synthetic zeros to meet investor demand. The Separate Trading of Registered Interest and Principal Securities (STRIP) was introduced in 1985 to meet this need.

1215

Which of the following statements regarding U.S. Treasury securities is least accurate?

A) Due to the way Treasury STRIPS are taxed, U.S. investors may face negative cash flows before the maturity date.

B) A 5-year Treasury note can be stripped into 11 different zero coupon securities.

C) The U.S. Treasury issues zero coupon notes, but not bonds.

---

The Treasury does not issue zero-coupon notes or bonds. That is why STRIPS were created. A 5-year Treasury note can be stripped into 11 zero coupon securities, consisting of its 10 coupon payments and the principal repayment. The U.S. Internal Revenue Service regards the accrued interest on a zero coupon security as income on which the security holder must pay taxes even though he has not received a cash interest payment.

1215

Which of the following statements about Treasury securities is NOT correct?

A) Designated government securities dealers can buy treasuries, strip out the coupons and principal, and reissue these stripped cash flows as zero-coupon bonds.

B) The U.S. Treasury auctions 10-year Notes weekly.

C) Taxable investors holding zero-coupon bonds can have negative cash flows prior to maturity.

---

U.S. Treasury Notes are issued quarterly. Both of the other statements are true. It is possible that taxable investors will have negative cash flows from holding zero-coupon securities, since there is no cash income, but taxes must be paid at least annually on the implicit interest.