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  4. First Time Buying a new issue 5 Treasury Note At Fidelity - Coupon Vs Expected Yield

First Time Buying a new issue 5 Treasury Note At Fidelity - Coupon Vs Expected Yield

sams1985
  |     |   781 posts since 2022

I'm completely new to this process and just want to make sure i know what i'm getting myself into. The coupon is listed as 3.875% whereas the expected yield is 4.122%

If i understand correctly, if i bought a $100,000 note, i will receive semi annual interest payments totaling $3875(3.875 coupon rate). What i dont understand is - how does the expected yield rate tie into this ?

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4


Answers
MAKNYC
  |     |   323 posts since 2015
From what you have written, it sounds like you are referring to purchasing at auction. The alternative is to buy a note in the secondary market. If at auction, Fidelity is providing you with a loose estimate of what they expect the yield to be….4.122%. First off those estimates can be off significantly. Better way to judge is to look at secondary market offerings on the auction date with the same maturity date as the note you are purchasing. Usually newly issued paper trades slightly higher. But the root of your question….if the note auctions with the 3.875% coupon and rates are currently higher (4.122% in your example), the note will auction at a price slightly less than par. So you might buy the $100,000 note at $99,500 and the $500 difference could be thought of as additional interest accreted over the life of the bond. In terms of annual cash flows, you are correct as to the annual interest payments you will receive (3875/2 each 6 months).
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sams1985
  |     |   781 posts since 2022
Got it, that makes sense- so a novice like myself should rely more on the coupon when selecting and purchasing these notes when purchasing at auction.
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alan1
  |     |   877 posts since 2015
I agree with CTM. An expected yield or indicative yield is an estimate, since the actual yield is not known.

If an actual coupon is listed, that sounds like an existing Treasury security, not one that will be auctioned in the future.

Here is a link to the announcement of an upcoming auction of a 5-year note (CUSIP 91282CFM8). Please note that it lists both the yield and the interest rate as "Determined at Auction".
https://www.treasurydirect.gov/instit/annceresult/press/preanre/2022/A_20220922_2.pdf

(Additional note, based solely on my experience; totally impressionistic: brokerage estimates of yields of upcoming Treasury auctions tend to be on the low side, on the morning of the auction)
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CTM
  |     |   179 posts since 2010
sams1985 -

I cannot reconcile your post with a Treasury auction. The interest rate and price are not known before the auction. Is 91282CFM8 the CUSIP of the Treasury in question? This is the 5 year Note in the 09/27/22 auction.

If Fidelity is providing you with an estimate, that is fine. It may be close, but it is not real. If you are buying in the secondary market, a 3.875% coupon yielding 4.122% indicates a 5 year (remaining) Treasury purchased at a discount from par. Your numbers (to me) indicate a price of ~ $ 98.895.

As of last Friday, the Treasury par yield curves indicate the 1 year, 2 year and 3 year Treasuries were all yielding more than the 5 year Treasury.

At about 2:00 Eastern, the 5 year Treasury was quoted ~ 4.171%.
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sams1985
  |     |   781 posts since 2022
Yeah that is the one- ask Yield to Worst is now 4.173%. It's a new issue note. Does the note have to be bought before the auction begins? eg. today is the last day to purchase? Why the discrepancy between the coupon and Fidelity's estimated yield?
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CTM
  |     |   179 posts since 2010
For that auction, the Treasury non-competitive closing time is 12:00 PM Eastern. Fidelity will have a cut-off time a couple of hours earlier.
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alan1
  |     |   877 posts since 2015
You must submit a bid before the auction; you cannot actually buy before the auction. The auction date of the upcoming 5-year note is September 27, 2022. The settlement date is September 30, 2022.

The closing time for noncompetitive bids submitted through TreasuryDirect is Noon (Eastern Time), September 27, 2022.

https://www.treasurydirect.gov/instit/annceresult/press/preanre/2022/A_20220922_2.pdf

The closing time for noncompetitive bids submitted through a brokerage is likely to be before Noon (Eastern Time), September 27, 2022. Consult your brokerage for its deadline.

sams1985 -- I think you could learn a good deal from this bogleheads thread. And it can be a great place for asking questions on this topic.
https://www.bogleheads.org/forum/viewtopic.php?f=10&t=378350&newpost=6888967

ETA: I see that CTM and I have been typing simultaneously, and CTM is beating me to the punch, with his valuable comments. I apologize for any duplication.
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lou
  |     |   1,004 posts since 2010
If you buy a treasury note at auction (unlike a bill), aren't you always buying it at par, meaning the coupon rate is equal to the yield?
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alan1
  |     |   877 posts since 2015
No

see, e.g., results of today's 2-year note auction
https://www.treasurydirect.gov/instit/annceresult/press/preanre/2022/R_20220926_3.pdf
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rockies
  |     |   295 posts since 2018
To drill down another step, therefore, is it true that if a new issue is held to maturity, the difference between price and par is taxed as long term capital gains by federal and state at maturity? And, the coupon payments are taxed as ordinary income by federal in the year they are paid, but are tax free by state and local?
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alan1
  |     |   877 posts since 2015
posted in wrong place
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lou
  |     |   1,004 posts since 2010
It's damn close however. The coupon rate is 4.25% and the yield is 4.29%.
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CTM
  |     |   179 posts since 2010
Yes, in that particular example.

If you were to look at the last auction of a 10 year treasury (CUSIP 91282CFF3), which was a reopening, the price was $ 95.132618 with a high yield of 3.330% and a coupon of 2.750%.

The Treasury press release is here:
https://www.treasurydirect.gov/instit/annceresult/press/preanre/2022/R_20220912_3.pdf
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lou
  |     |   1,004 posts since 2010
Why do they call it a 9 year 11-month note? I find this particularly disturbing since you have to wait 10 years to realize the difference between the coupon rate and the yield. I definitely have a problem with buying this security the way it is structured.
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CTM
  |     |   179 posts since 2010
Because it is a 9 year 11 month Note!

You asked a question and alan1 replied with the only correct answer. I posted a link to an auction where the price was below par (could also be above par) by a greater amount.

If you read the Treasury press release, you would see the bond's original maturity was 10 years, the reopening maturity is exactly as stated, 9 years and 11 months.

From the press release:

Issue Date September 15, 2022 - Maturity Date August 15, 2032
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alan1
  |     |   877 posts since 2015
lou --CTM posted a link to the "Treasury Auction Results". CTM specifically directed attention to the fact that the auction was a reopening. Please read the entirety of the document that CTM took the time to locate and post.

The document clearly states that the "Original Issue Date" is August 15, 2022 and that the "Issue Date" of the reopened security is September 15, 2022.

CMT specifically stated that it was a reopening of "a 10 year treasury". So, I believe the following is the basis of the Treasury's computation that you find "particularly disturbing" and causes you to "have a problem":

The reopening occurred one month after the original issue date. There are twelve months in a year. The Treasury mathematicians began with a minuend of 10 years 0 months and a subtrahend of 0 years 1 month, and computed the difference as 9 years 11 months.

I believe the Treasury mathematicians are correct in denominating the reopened security as a "9-Year 11-Month Note".

ETA: And I see that, once again, CTM and I were simultaneously responding, and that CTM's post preceded mine. And, again, apologies for any duplication.
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lou
  |     |   1,004 posts since 2010
What was the coupon rate and the yield for the August 15, 2022 10-year treasury. This reopening one month later sounds like an infrequent event, which is maybe the reason for the unexpected large gap between the coupon rate and the yield.
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lou
  |     |   1,004 posts since 2010
Nowhere in the document or link CTM posted is there any reference to a reopening.
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alan1
  |     |   877 posts since 2015
In addition to CTM's mentioning that it was a reopening, the Treasury document includes the following:

Issue Date September 15, 2022
Maturity Date August 15, 2032
Original Issue Date August 15, 2022
(italics added)
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alan1
  |     |   877 posts since 2015
lou states: "This reopening one month later sounds like an infrequent event, which is maybe the reason for the unexpected large gap between the coupon rate and the yield."

A "Tentative Auction Schedule of U.S. Treasury Securities" can be found at
https://home.treasury.gov/system/files/221/TentativeAuctionScheduleQ32022.pdf

If the letter "R" appears to the right of the security listed in "Security Type" it's a reopening. I do not know what anyone could be hearing that makes a reopening sound like an infrequent event.

And, in particular, reopenings of the 10-year are frequent events.
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lou
  |     |   1,004 posts since 2010
Do you know the coupon rate and the yield of the original issue treasury dated August 15. 2022?
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lou
  |     |   1,004 posts since 2010
In the tentative auction schedule you linked it shows a 5-year treasury auction date of Sept 27th. Is this the reopening to which you're referring?
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alan1
  |     |   877 posts since 2015
lou -- I apologize for any lack of clarity in my post involving the tentative schedule. In that post I was not referring to any particular reopening. I linked to the tentative schedule merely to demonstrate that reopenings are not infrequent occurrences, and that they are quite common when it comes to auctions of 10-year notes.

Please note that the tentative schedule is precisely what it purports to be -- "tentative".
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lou
  |     |   1,004 posts since 2010
I only see two reopenings since May, both of them 10-yr treasuries. All the other notes, including all the other maturities, are original issue auctions. The coupon rate and the yield are usually within 10 to 20 basis points of each other. There is a 5-yr treasury dated August 1 with a 10 basis point gap. I don't like the Treasury Dept pricing these securities in this manner. It makes you wait years to realize the small difference between the coupon rate and the yield.
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alan1
  |     |   877 posts since 2015
The tentative schedule I'm looking at begins with an auction date of August 9, 2022 (announcement date of August 3, 2022; 3-year note; not a reopening). It looks like the same tentative schedule I linked to earlier, and it is loaded with the letter "R" for reopening, starting with the 30-year TIPS on August 18. I see 10 "R"s on the first page alone.

https://home.treasury.gov/system/files/221/TentativeAuctionScheduleQ32022.pdf
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lou
  |     |   1,004 posts since 2010
I was only looking at notes and saw 2 ten-yr treasuries reopenings. Apparently, there were two 2-yr floating rate notes that were reopenings. The rest of them are 30-yr bond treasuries and tips. Most of them are 30-yr treasuries.
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CTM
  |     |   179 posts since 2010
Hopefully, this will end the reopening discussion.

This is the link to the official Treasury Reopening schedule for all Treasury securities. As you can see, with the exception of 30 year TIPS, reopenings are greater in number than original auctions.

https://www.treasurydirect.gov/instit/auctfund/work/reopenings/reopenings.htm
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alan1
  |     |   877 posts since 2015
thank you, CTM. I would like to add one item from TreausryDirect specifically re auctions of 10-year notes, not just as per the "Current Schedule" you posted, but on a recurring basis.

from "General Auction Timing", section on "Treasury Notes":

"10-year note auctions are usually announced in the first half of February, May, August, and November. The reopenings of a 10-year note are usually announced in the first half of January, March, April, June, July, September, October, and December. All 10-year notes are generally auctioned during the second week of the above-mentioned months and are issued on the 15th of the same month. If the 15th falls on a Saturday, Sunday, or federal holiday, the securities are issued on the next business day."

https://www.treasurydirect.gov/instit/auctfund/work/auctime/auctime.htm
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lou
  |     |   1,004 posts since 2010
Who cares how many reopenings there are. Let's keep our focus on the real problem which is the gap between coupon rate and the yield. If that gap is too wide then it's a deal breaker for me. The trouble is you don't know what it will be until you get the results of the auction and then it's too late to do anything about it. This is only a problem for the longer term maturities.
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alan1
  |     |   877 posts since 2015
First, lou writes: "This reopening one month later sounds like an infrequent event"; then, when it's demonstrated that reopenings are frequent, he suddenly proclaims:
"Who cares how many reopenings there are."

In his most recent comment, writIng about "the gap between coupon rate and the yield", he states: "The trouble is you don't know what it will be until you get the results of the auction and then it's too late to do anything about it."

According to lou, that is "the real problem".

That problem can easily be solved by buying in the secondary market (which is what I do for a number of reasons, a minor one being that I prefer to know the yield I'll be getting, rather than finding out after an auction). When I place an order in the secondary market, there are three possible outcomes:

1. the order will be executed at the price, coupon and yield available at the time of the order;
2. the order will be executed at a lower price, same coupon and higher yield than what was available at the time of the order;
3. the order will not be executed.

I've generally had outcome number 1 above; occasionally, outcome number 2; and never had outcome number 3 for an order for nominal treasury securities (it has happened to me with orders for TIPS).

So, if you want to know what you'll be getting, you can buy in the secondary market (and your trade will settle the next business day, much more quickly than going through the auction process). And the spreads in the secondary market are quite small -- not at all like the secondary market for CDs.
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lou
  |     |   1,004 posts since 2010
In a rising interest rate environment, the problem of wide gaps between the coupon rate and the yield is even worse in the secondary market. Most of these secondary issues are selling at significant discounts because yields are going up rapidly each month while their coupon rates are fixed. I don't see this as a solution to the problem I outlined earlier in the thread. The solution is to stay away from reopening auctions and stick with only original issues which seem to have lower spreads.
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jack12
  |     |   307 posts since 2021
Alan
I am a bit confused by this
I bought some of the 2 year too

Am I getting the 4.29% or one of the other rates listed?


Interest Rate 4-1/4%
High Yield 1 4.290%
Allotted at High 7.03%
Price 99.924113
Accrued Interest per $1,000 None
Median Yield 2 4.220%
Low Yield 3 4.100%
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CTM
  |     |   179 posts since 2010
I'll take this one for alan1, as we appear to be a tag team.

First, it would be helpful if posters included the CUSIP of the Treasury they purchased (or are considering purchasing). I believe this is the 2 year Treasury, CUSIP 91282CFN6, auctioned yesterday. The interest rate is 4.25%, but because you purchased it at a discount, $ 99.924113, the yield is slightly higher at 4.290%.
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alan1
  |     |   877 posts since 2015
jack12 -- you are referring to the auction of a 2-year note (CUSIP 91282CFN6). The official auction results are here:
https://www.treasurydirect.gov/instit/annceresult/press/preanre/2022/R_20220926_3.pdf

The note has an interest rate of 4.25%.
Notes issued pursuant to noncompetitive bids have a yield of 4.290%.

You will be getting an interest rate of 4.25%.
If you submitted a noncompetitive bid, your yield will be 4.290%, if you hold the security until maturity.

(Please note that there are differences between yield computations for bonds [not just Treasuries] and annual percentage yields used by issuers of Certificates of Deposit that are purchased directly from banks and credit unions.)

and jack12 -- I would suggest that you address questions on this topic to the group as a whole, not to me as an individual. I do not claim to have any particular expertise on this subject. It's easy to see that there are people who have posted on this thread who know at least as much as I do about Treasury securities.

ETA: And, once again, it seems that ETM and I are pulling off our patented simultaneous typing exhibition. It's not only great minds that think alike.
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sams1985
  |     |   781 posts since 2022
When will we see the results of today's 5 year note auction?
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MAKNYC
  |     |   323 posts since 2015
Lou - Although your question was previously answered I felt some more color would be useful. If an auction is for a newly issued security (as opposed to a reopening of a previously issued security where they just issue more of the same), the Treasury will assign a coupon to it that is as close to but not going over what the auction clearing yield is. Coupons generally are formulated in eighths. So if an auction clearing yield of 5.15% were required, the newly issued security would have a 5.125% coupon and sell at a discount to par. If the auction clearing yield was 4.75% the instrument would have a 4.75% coupon and trade at par. (But that almost never happens because auction yields go out more than 2 decimals). If an auction is for a reopened security, that already issued security already has an assigned coupon (determined from the first auction) and hence any changes in interest rates between the two auctions will have to be made up via a price adjustment, hence a larger discount to par.
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alan1
  |     |   877 posts since 2015
nicely explained; thank you MAKNYC
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lou
  |     |   1,004 posts since 2010
Which I think would mean I should not participate in treasury reopenings for longer dated treasuries. Thanks

Alan1, I still stand by the following statement which I said earlier in the thread. The reason why I don't want to waste my time arguing about it is not because I was wrong but because it's irrelevant to what I want to know. But go ahead and argue about it if this is what turns you on.

"I was only looking at notes and saw 2 ten-yr treasuries reopenings. Apparently, there were two 2-yr floating rate notes that were reopenings. The rest of them are 30-yr bond treasuries and tips. Most of them are 30-yr treasuries."
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