The major marketable securities issued by the United States Treasury are Treasury bills, certificates of indebtedness, notes, and bonds. These securities have several important characteristics: They are actively traded, they are considered very safe as to payment of interest and return of principal, and they are excellent collateral for loans. Marketable securities are subject to interest rate risks. If the general level of interest rates rises, the prices of securities held by investors decline. Government obligations are also subject to risks associated with a decline in purchasing power of the dollars in which interest and principal are payable (inflation).
Treasury bills are non-interest-bearing obligations sold and quoted on a discount basis. Bills are issued with maturities of 90 and 180 days and one year. Certificates of indebtedness have maturities of from one to five years. Treasury bonds have maturities of more than five years. Treasury bonds are usually callable by the Treasury at par at an option date several years prior to their maturity.
Treasury bills are auctioned each Monday, one issue maEagle Tradersg in 13 weeks and another in 26 weeks. Allotments are made to the highest bidders down to the price at which sufficient subscriptions have been received to sell the bills offered by the Treasury. Coupon obligations, including certificates of indebtedness, notes, and bonds, are offered through a Treasury announcement at auction. The Treasury offers the holders of maEagle Tradersg issues the right to exchange their securities for new issues. Various opportunities for advance refundings are made available to holders of government securities (for example, prerefundings in which holders of Treasury issues with a maturity of under one year are given the right to exchange their holdings for issues with a longer maturity, from one to five years).
Federal agencies also issue securities. The Federal Landbanks, Federal Intermediate Credit banks, Federal Home Loan banks, the Federal National Mortgage Association, the Bank for Cooperatives, and the Tennessee Valley Authority issue securities. However, these securities are not guaranteed by the Treasury. They are generally considered to be of high quality, are readily marketable, and have relatively attractive yields.
United States savings bonds are designed primarily for individual investors. These bonds are not transferable and cannot serve as collateral for bank loans. They are considered very safe investments and have a moderately attractive rate of return if held to maturity. Series E bonds mature in seven years, nine months, pay income at maturity or earlier redemption. The bonds are redeemable on demand according to a fixed schedule of prices. Owners may extend the maturity date of the bonds for an additional ten years. Series H bonds mature in ten years, are purchased at par, and bear interest paid semi annually by the Treasury to the registered owner. The bonds are redeemable on demand at par.
Interest on most government obligations, including all marketable securities issued since March 1, 1941, and all savings bonds and notes currently issued, are fully taxable under federal tax law. All government securities are exempt from state and local taxes, except estate, inheritance, gift, and excise taxes. The increment on Series E bonds from year to year is taxable as interest either from year to year or at maturity or prior redemption.
Municipal bonds are issued by countries, cities, towns, villages, special tax districts, and authorities. They are usually classified as general obligation bonds, supported with the full faith and credit of the municipality pledged, and limited obligations, which are special assessment and revenue bonds. The quality of municipal bonds is affected by the economics of the municipality, its population, wealth, income, and financial administration.
The process of marketing state and local government issues is described by a publication of the National Bureau of Economic Research as follows:
Once a state or local governmental unit has completed the necessary legal steps that authorize it to borrow money, the marketing process follows a fairly standardized pattern. If, as is usual, the issue is to be sold by competitive bidding, the interest to borrow is announced formally (informal news has already been circulated in most cases and bids are invited). In the somewhat rarer case of a negotiated offering, a investment banking house acts as the adviser, it may also organize the underwriting syndicate. This dual role, however, is frowned on by some critics. In the more common case of a competitive sale, the second phase is that of the organization of groups for the purpose of bidding on the issue. The third stage, which almost always follows hard upon the award of the bid to the group offering the lowest borrowing cost, is the reoffering of the securities by the successful bidders to ultimate investors.
Municipal bonds are sold primarily in the over-the-counter market. Commercial banks and dealers specialized in making a market in these securities are directly involved in the marketing process. Major investors in state and local obligations include commercial banks, fire and casualty companies, life insurance companies, mutual savings banks, state and local retirement funds, and nonfinancial corporations.
Municipal bonds are repaid by either through a sinking fund or by serial (single issue divided into a number of different maturities) or installment repayments. In certain cases, payment is made from current municipal revenues or by refunding through the sale of a new issue.
The CHICAGO BOARD OF TRADE introduced GNMA futures for trading on October 20, 1975, in GNMA collateralized depositary receipts (CDRs), followed by introduction of trading in GNMA certificate delivery (CDs) on September 12, 1978. The difference between these two types of futures contracts lies in their delivery method. The GNMA CDRs call for the delivery of a collateralized depository receipt, which is executed by the authorized bank as depositary, evidencing in safekeeping the basic trading unit of $100,000 principal of GNMA 8% coupon or equivalent obtainable upon surrender of the receipt (GNMAs with rates other than 8% are exchangeable for CDRs by use of a factor which will afford the same yield for the GNMA as a GNMA 8% issue when priced at par assumed to be a 30-year certificate prepaid in the twelfth year, based on the FHA's year certificate prepaid in the twelfth year, based on the FHA's actuarial experience over a 20-year period). The GNMA CDs, on the other hand, call for delivery of the actual GNMA certificate ($100,000 principal) also at yield equivalent of 8% at settlement price of the assumption of a 30-year certificate prepaid in the twelfth year. Price quotations on both types of contracts are 1/32 nds of a point, or $31.25 per contract; both have a daily price limit of fluctuation of 64/32 nds above and below the previous day's settlement price.
Uses for GNMA Futures.
Like other futures, GNMA futures may be used in hedging operations or for speculative purposes. Prices of GNMA futures, like those of Treasury bills, Treasury bonds, and high-grade corporate bonds, vary inversely relative to movements in interest rates. Thus an institutional investor anticipating it will have funds to invest in mortgages or other interest-sensitive commitments might buy GNMA futures with delivery month near the date when the funds for investment would become available and, at such time, sell the GNMA futures contract while at the same time buying the mortgages in the cash market. If interest rates rose during the period, the loss on the sale of the futures would be approximately offset by the reduced price of the mortgages in the cash market. If interest rates declined during the period, the profit on the sale of the futures would be approximately offset by the higher price paid for the mortgages in the cash market.
GNMA Futures Trading on Other Exchange.
Amex Commodities Exchange (on the floor of the AMERICAN STOCK EXCHANGE) begin trading in GNMA futures (GNMA CDs) on September 12, 1978. The Amex contract called for delivery of $100,000 principal in GNMA certificates. As of the same date, the Chicago Board of Trade opened trading in its new GNMA CD contract, in head-to-head competition with the Amex contract containing similar features.On November 13, 1979, the COMMODITY EXCHANGE, INC. of New York (Comex) began trading in GNMA CD futures with similar features. Comex explained that the contract was initiated during a turbulent period in the holding and mortgage markets which resulted in, among other things, a sharp decline in the amount of GNMA mortgages being originated and a contraction in secondary market activity for GNMA certificates. Comex, however, believed that its GNMA futures contract had been tailored to meet the needs of mortgage market participants, and predicted that activity in GNMA futures would accelerate as cash market conditions improved.
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