Loading the player...

What are 'Treasury STRIPS'

Treasury STRIPS are fixed-income securities sold at a significant discount to face value and offer no interest payments because they mature at par. STRIPS is an acronym for Separate Trading of Registered Interest and Principal of Securities. These zero-coupon bonds come about when the bond's coupons are separated from the bond or note; an investor's return is determined by the difference between the purchase price and the bond's trading value, or face value if held to maturity.

BREAKING DOWN 'Treasury STRIPS'

Backed by the U.S. government, STRIPS, which were first introduced in 1985, offer minimal risk and some tax benefits in certain states, replacing TIGRs and CATS as the dominant zero-coupon U.S. security. Although you receive no tangible income, you typically still have to pay federal income tax on the bond's accretion for the year. All issues from the Treasury with a maturity of 10 years or longer are eligible for the STRIPS process. STRIPS cannot be purchased directly from the Federal Reserve or a governmental agency. The securities can be bought by private brokerages.

Coupon Stripping

The act of detaching the interest payments is called coupon stripping. These coupons become separate securities, with the principal payment due at maturity, with no interim coupon payment.

For instance, a 10-year bond with a $40,000 face value and a 5% annual interest rate can be stripped. Assuming it originally pays coupons semi-annually, 21 zero-coupon bonds can be created. This includes the 20 semi-annual coupon payments. Each stripped coupon has a $1,000 face value, which is the amount of each coupon. There is also a bond created from the principal payment at maturity. All 21 securities are distinct and trade in the market.

Popularity of STRIPS

There are several reasons STRIPS have become a popular investment. They have a very high credit quality since the bonds are backed by U.S. Treasury securities. Since STRIPS are sold at a discount, investors do not need a large stash of cash to purchase the bonds. If STRIPS are held to maturity, investors know their payout.

STRIPS offer a range of maturity dates since they are based on the dates of the interest payments. If an investor wishes to sell prior to maturity, the market is very liquid.

Tax Considerations

Generally, taxes are due for the interest earned each year, even though there is no cash payment until maturity or when the STRIPS are sold. However, a tax-deferred account, such as an individual retirement account (IRA) and nontaxable accounts, which include pension funds, avoid this taxation. Each holder of STRIPS receives a report detailing the amount of interest income earned.

RELATED TERMS
  1. Strip

    1. For bonds, the process of removing coupons from a bond and ...
  2. Futures Strip

    The sale or purchase of futures in sequential delivery months ...
  3. Interest Only (IO) Strips

    The interest portion of mortgage, Treasury or bond payments, ...
  4. Strip Bond

    A bond where both the principal and regular coupon payments--which ...
  5. Zero-Coupon Bond

    A debt security that doesn't pay interest (a coupon) but is traded ...
  6. Coupon Rate

    The yield paid by a fixed income security. A fixed income security's ...
Related Articles
  1. Investing

    How Do I Calculate Yield To Maturity Of A Zero Coupon Bond?

    Yield to maturity is a basic investing concept used by investors to compare bonds of different coupons and times until maturity.
  2. Investing

    Government Bond ETFs to Date 2016 Performance Review (ZROZ, EDV)

    Find out how government bond exchange-traded funds (ETFs) are performing YTD in 2016, and which are the best and worst performers.
  3. Financial Advisor

    Simple Math for Fixed-Coupon Corporate Bonds

    A guide to help to understand the simple math behind fixed-coupon corporate bonds.
  4. Financial Advisor

    Using Excel PV Function to compute Bonds PV

    To determine the value of a bond today - for a fixed principal (par value) to be repaid in the future at any predetermined time - we can use an Excel spreadsheet.
  5. Investing

    Understanding Bond Prices and Yields

    Understanding this relationship can help an investor in any market.
  6. Investing

    Corporate Bonds: Advantages and Disadvantages

    Corporate bonds can provide compelling returns, even in low-yield environments. But they are not without risk.
  7. Investing

    All About Zero Coupon Bonds

    Zero-coupon bonds are bonds that do not make any interest payments (which investment professionals often refer to as the "coupon") until maturity. For investors, this means that if you make an ...
  8. Investing

    How Does A Bond’s Coupon Interest Rate Affect Its Price?

    All bonds come with a coupon interest rate, which is the fixed annual interest a bond pays.
  9. Investing

    Risks To Consider Before Investing In Bonds

    Make sure you understand the risks associated with bonds before making an investment decision.
  10. Investing

    What is a "Coupon"?

    In the financial world, “coupon” represents the interest rate on a bond.
RELATED FAQS
  1. What is the difference between yield to maturity and the coupon rate?

    A bond's coupon rate is the actual amount of interest income earned on the bond each year based on its face value. The yield ... Read Answer >>
  2. What is the difference between a zero-coupon bond and a regular bond?

    The difference between a zero-coupon bond and a regular bond is that a zero-coupon bond does not pay coupons, or interest ... Read Answer >>
  3. What types of fees apply to checking accounts?

    Learn about the difference between a bond's coupon rate and its yield to maturity, and how the par value, coupon rate and ... Read Answer >>
  4. How do I calculate yield to maturity in Excel?

    Learn how to calculate a bond's yield to maturity in Microsoft Excel, which is one of the best methods of comparing bonds ... Read Answer >>
  5. How do debit spreads impact the trading of options?

    Find out what it means when a bond has a coupon rate of zero and how a bond's coupon rate and par value affect its selling ... Read Answer >>
Hot Definitions
  1. Investing

    The act of committing money or capital to an endeavor with the expectation of obtaining an additional income or profit.
  2. Stagflation

    A condition of slow economic growth and relatively high unemployment - a time of stagnation - accompanied by a rise in prices, ...
  3. Notional Value

    The total value of a leveraged position's assets. This term is commonly used in the options, futures and currency markets ...
  4. Interest Expense

    The cost incurred by an entity for borrowed funds. Interest expense is a non-operating expense shown on the income statement. ...
  5. Call Option

    An agreement that gives an investor the right (but not the obligation) to buy a stock, bond, commodity, or other instrument ...
  6. Pro-Rata

    Used to describe a proportionate allocation. A method of assigning an amount to a fraction, according to its share of the ...
Trading Center