Securities that are issued by government agencies are considered US agency bonds. These debts are issued to raise money for the various functions the agency engages in. These could include mortgages, farm loans or student loans.
US Government Agency Bonds
Government agency bonds are AAA rated, but most are not considered drirect obligations of the US government. Many are privatized associations set up by the US to offer the various services just mentioned.
GNMA or Ginnie Mae is an agency that is a direct obligation of the government. Since these have the highest credit quality of all agency bonds, they tend to offer the lowest rate of return - when compared to other federal bonds.
These Federal Bonds can be issued by:
- Ginnie Mae GNMA
- Fannie Mae FNMA
- Sallie Mae SLMA
- Freddie Mac FHLMC
Others bonds are issued by FHLB, FFCB and a few others.
Types of Agency Bonds
Straight Debt Obligation - These bonds are backed by the full faith and credit of the agency and generally pay interest from a nominal yield every 6 months with a fixed maturity where the par value is redeemed.
These are typical structures that are common in other forms of issuers, such as corporations and municipal issuers.
Pass Through Securities - These bonds are backed by the full faith and credit of the agency as well, but the payments and eventual pay-off rely on the paying back of mortgage payments issued through the agency.
Ginnie Mae or another mortgage issuing agency could issue a pass through to fund the issuance of mortgages to a group of people.
As the homeowner pays back principal and interest back to Ginnie Mae, Fannie Mae or whoever - the bond holders are paid.
Pass Through Bonds or Mortgage Backed Securities are normally issued as 30 year bonds, but the prepayments made by the mortgage holders or changes in interest rates will effect the speed of the payments made on the bonds.
The holders will receive monthly principal and interest until their share in the bond is completed.
These bonds have a large amount of prepayment (paying too fast) or extension risk (paying too slow), because changed in interest rates, will have a potential volitile impact on the performance of the bond.
BANK FOR COOPERATIVES:
A government-sponsored corporation that loans money to agricultural cooperative
associations. The Farm Credit Administration supervises the bank.
EXPORT-IMPORT BANK (EXIMBANK):
An independent federal agency, established in 1934, that borrows money from the U.S.
Treasury to encourage foreign trade. The Export-Import Bank is guaranteed by “the full
faith and credit of the U.S. Government”.
FEDERAL FARM CREDIT BANK (FFCB):
A Government-sponsored institution that consolidates the financing activities of the
Federal Land Banks; the Federal Intermediate Credit Banks and the Banks for
Cooperatives. See Federal Farm Credit System.
FEDERAL FARM CREDIT SYSTEM:
A system established by the Farm Credit Act of 1971 to provide credit services to farmers
and farm related enterprises through a network of twelve Farm Credit districts.
FEDERAL HOME LOAN BANK SYSTEM (FHLB):
A system created in 1932 after many bank failures, that supplied credit reserves for
savings and loans and other mortgage lenders. When Congress reorganized the savings
and loan industry in 1989, the newly created Federal Housing Finance Board assumed
direction of the Federal Home Loan Bank System.
FEDERAL HOME LOAN MORTGAGE CORPORATION (FHLMC):
A publicly chartered Agency that buys residential mortgages from lenders, packages
them into new securities backed by these pooled mortgages, provides certain guarantees
and then, resells the mortgage-backed securities on the open market. Shares of FHLMC
stock are publicly traded on the New York Stock Exchange. The Corporation, nicknamed
Freddie Mac, has created an enormous secondary market, which provides more funds for
Freddie Mac formerly packaged only mortgages backed by the Veteran’s Administration
or the Federal Housing Administration, but now it also securitizes and resells nongovernmentally
backed (conventional) mortgages. The FHLMC was established in 1970.
The price paid for a bond is based upon the general level of interest rates at the time of purchase. When a security is issued, the coupon rate will be reflective of the current interest rate environment,
and the price will typically be at or close to par (100.00% of face value).
After the bond is issued, if interest rates go down, the price of the bond will go up (to more than 100.00% of face value). This happens because a new bond issued in the
lower interest rate environment would have a lower coupon rate, and trade at or close to par.
The investor selling the older bond (with a higher coupon rate) would demand a higher price (a “premium”). for the bond (it has a higher coupon, pays more interest and, therefore is more valuable).
Conversely, after a bond is issued, if interest rates go up, the price for the security will decline (to a “discount”) because its coupon will be less valuable.
Of course, no investor is obligated to sell a bond prior to maturity regardless of whether interest rates rise or fall.
YIELD The price paid by the buyer will equate to an “effective yield” to the bond’s stated maturity. The effective yield to maturity is calculated using a mathematical combination of the price paid,
the coupon interest rate and the remaining term to maturity. The following are some examples:
1) PRICE= 100.00 (par) PAR VALUE= $1,000,000.00 TERM TO MATURITY = 10 years COUPON = 10.00% PAID SEMIANNUALLY EFFECTIVE YIELD = 10%
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