What it means
A normal Treasury bond makes regular interest payments and returns the principal at the end. A financial firm can buy the bond, place it in a trust, and then sell separate claims on each payment, and the claims are called Treasury receipts.
Each receipt has its own maturity date and face value. An investor who wants $100,000 in five years can buy a receipt maturing then, without worrying about reinvesting interest in the meantime.
The price is lower than the face value because the investor must wait for the money, and that gap is the whole return. The gap between the purchase price and the face value is the return, which makes the receipt attractive for planning a known future need, such as a tuition bill or a loan repayment.
Because the underlying securities are Treasuries, credit risk is very low. However, the receipts themselves are issued by private firms, so the investor also relies on the trust arrangement and on the firm that created it.
Prices can move a lot with interest rates, because there are no coupons to cushion the change. A receipt with a long maturity is much more sensitive to rate changes than a short one, which can lead to large gains or losses if sold early.
Today most investors use the government's own STRIPS, which have a direct claim on the Treasury and are simpler to trade. Treasury receipts are still worth understanding as the origin of the idea and as a term that appears in older documents and textbooks.
In practice
Real-world examples.
Example
A parent expects a $50,000 tuition bill in eight years. She buys a receipt maturing then, so the exact amount will be available regardless of changes in interest rates. She keeps the receipt in a dedicated account so it is not spent on anything else.
Example
A small insurer needs $2,000,000 to pay a known claim in four years. It buys receipts maturing on the right date to match the liability. This approach is known as immunisation, because the asset and the liability move together.
Example
A student of fixed income compares a coupon bond with a set of receipts built from the same bond. She sees that each coupon has its own maturity and price, and that together they add up to the value of the bond. The exercise shows why the stripped pieces are priced off the same yield curve.
Formula
Calculation
The price of a receipt is its face value discounted at the yield:
Price = Face value / (1 + Yield) ^ Years
An illustrative receipt has a face value of $100,000, matures in 2 years and is priced to yield 5% a year with annual compounding. The price is $100,000 / (1.05 x 1.05) = $100,000 / 1.1025 = $90,703 when rounded to the nearest dollar. The investor earns $100,000 - $90,703 = $9,297 over two years. If the yield rises to 6%, the price falls to $100,000 / 1.1236 = $89,000, a drop of about $1,703.Case study
Seen in the real world.
Linden Pension Services is an illustrative, fictional adviser that manages a small fund with promised payments to retired workers. The fund must pay $500,000 in exactly six years, and the manager wanted certainty rather than market risk, since the trustees could not tolerate a shortfall.
He bought Treasury receipts maturing on the payment date, spending about $390,000 today at the then-current yield. The receipts paid no interest, so there was no income to reinvest and no risk of a falling rate reducing returns.
Interim statements showed the value of the receipts moving up and down with interest rates, which worried some trustees. One asked why the fund did not simply buy a coupon bond that paid regular interest. In this illustrative case the manager explained that the price moves were temporary, since the full $500,000 would arrive at maturity if the receipts were held, and the trustees accepted the approach.
Watch out
Common mistakes.
- Expecting regular income, when the receipt pays nothing until it matures.
- Ignoring interest rate risk, which can cause large price swings before maturity. The longer the maturity, the larger the swing for a given change in yield.
- Forgetting that the receipt is issued by a private firm, not directly by the government.
Questions
People also ask.
How does a Treasury receipt differ from STRIPS?
STRIPS are created through the Treasury's own book-entry system with a direct claim on the government, while receipts came from private trusts.
Why buy a receipt?
To lock in a known amount at a future date with very low credit risk.
Is the return taxable before maturity?
In many places the accrued discount is taxed each year even though no cash is received, so check the local rules. This is sometimes called phantom income, because tax is due without matching cash.
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