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, Treasury 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. Coupon Stripping

    Coupon stripping is the separation of a bond's periodic interest ...
  2. Certificate Of Government Receipts ...

    Certificates of Government Receipts are one of several synthetic ...
  3. Futures Strip

    A futures strip is the sale or purchase of futures contracts ...
  4. Stripped Yield

    Stripped yield is a measure of the non-collateralized, independent ...
  5. Principal Only Strips - PO

    Principal only strips are the portion of a stripped MBS that ...
  6. Earnings Stripping

    Earnings stripping is a common tactic used by U.S. corporations ...
Related Articles
  1. Investing

    Understanding Bond Prices and Yields

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

    Advantages and Risks of Zero Coupon Treasury Bonds

    Zero coupon bonds are bonds that do not make any interest payments until maturity, you won't put a single penny of interest in your pocket for two decades.
  3. Investing

    Long-Term Treasury Bond ETFs Are Attracting Assets in 2016 (TLT, TLH)

    Discover five exchange-traded funds that invest in U.S. Treasury long-term bonds and experienced large year-to-date capital inflows as of March 4, 2016.
  4. Investing

    Long Term Bond ETFs to Date 2016 Performance Review (VGLT, VCLT)

    Find out how long-term bond exchange-traded funds have been performing YTD in 2016, and how each fund is performing in the category.
  5. Investing

    3 Best High-Yielding Long Term Government Bond ETFs (EDV, ZROZ)

    Learn about three exchange-traded funds that invest in long-term U.S. government bonds and offer high distribution yields to investors.
  6. Personal Finance

    6 Tricks To Make Coupons Work For You

    Use these strategies to counteract the stores' and manufacturers' coupon tactics and come out ahead.
  7. Investing

    Find the Right Bond at the Right Time

    Learn about the types of bonds you should consider investing in, when you should be buying them and how to compare yields against their time to maturity.
  8. Investing

    4 basic things to know about bonds

    Learn the basic lingo of bonds to unveil familiar market dynamics and open to the door to becoming a competent bond investor.
RELATED FAQS
  1. When is a bond's coupon rate and yield to maturity the same?

    Find out when a bond's yield to maturity is equal to its coupon rate, and learn about the components of bonds and how they ... Read Answer >>
  2. How do I calculate yield to maturity of a zero-coupon bond?

    Find out how to calculate the yield to maturity of a zero-coupon bond, and learn why this calculation is simpler than one ... Read Answer >>
  3. If I buy a $1,000 bond with a coupon of 10% and a maturity in 10 years, will I receive ...

    See how fixed-income security investors can expect to use coupon rates on semi-annual payments if the bond or debt instrument ... Read Answer >>
  4. How does a bond's coupon interest rate affect its price?

    Find out why the difference between the coupon interest rate on a bond and prevailing market interest rates has a large impact ... Read Answer >>
Trading Center