Treasury Stock - Help?

miaxmia

Hi,
I was left some treasury stock which is due for redemption shortly. I have had a letter today with details for reinvestment or can take the money and run. My query is that enclosed is a list of treasury stock to purchase with varying amounts of interest from 4% to 9%. I am wondering what the catch is - surely everyone would want to reinvest at the 9% rate (providing you can afford to tie your money in for the said length of time). You can invest in conversion stock at 9% until 2011 or treasury gilt at 4.25% until 2011 (as an example). Is there a risk with any of these investments?

Aegis

I'm guessing that you must get less of the conversion stock than the treasury gilt if you reinvest? Otherwise it sounds like you're right...

Maybe someone with more experience with gilts can assist?

dunstonh

You need to calculate the redemption yield. This is the true return.

The 2011 9% stock costs 115.09 a unit. In 2011 you will get back 100. So you will lose money on the capital side.

The 4 1/4% UK Treasury Gilt 2011 has a unit price of 99.81 so you will gain on the capital in 2011 when it finishes at 100.

The current yield on the 9% stock is 7.82%.
The current yield on capital gain/loss is -4.94%
The redemption yield is 3.54% (using 3.06 as duration)

The current yield on the 4.25% stock is 4.26%
The current yield on capital gain/loss is 0.07%
The redemption yield is 4.33% (using 2.89 as duration)

So, from an investment point of view, the 4.25% is currently more attractive than the 9%. Although neither look that attractive at this time. Especially where you have unit trust fixed interest funds with current yields of 8.15%. You may not have the certainty as you do with gilts but the open ended investment with a high yield appears more attractive to me.

calculation is in two stages

1 -(income % / purchase price) x 100 = current yield
for 4.25% glit: 4.25% / 99.81 x 100 = 4.26%
for 9% gilt: 9/115.09 x100 = 7.82%

2 - (discount / duration left) / current price x 100 = current yield on capital gain/loss (if price isnt discounted then you show as a negative as was the case with the 9% stock where -15.09 was used)
for 4.25% glit: (0.19 / 2.89) / 99.81 x 100 = 0.07%
for 9% gilt: (-15.09/3.06) / 115.09 x100 = -4.28%

add the answers together and you have the redemption yield which is the true return including capital gain/loss.
for 4.25% glit: 4.26 + 0.07 = 4.33%
for 9.00% gilt: 7.82 - 4.28 = 3.54%

purch

..the yield to redemption on the 9% stock is 4.33%, and 4.31% on the 4.25% stock by my calculations for what it's worth..............

Is there a risk with any of these investments?

Theoretically default risk is negligible :eek:

You have interest rate risk, in as much as rates could go higher between now and redemption and thus you could lose out on the rate

dunstonh

I have edited to show my calculations on both.

Purch, what duration and prices did you use? That may account for a small difference if were are using different pricing dates.

barak

miaxmia wrote: »

Hi,
I was left some treasury stock which is due for redemption shortly. I have had a letter today with details for reinvestment or can take the money and run.

miaxmia - As has been said, there is no risk of default with Gilts, and the explanation of the differing yields has been set out. I have held Gilts in the past [but no longer!], and unless you intend to become an expert in this area, I suggest you take the cash and 'invest' it elsewhere. Life's complicated enough!

[Edit] I suppose if a large amount of cash is involved, you should take professional advice.

miaxmia

Thanks to you all for your answers - very helpful, as I would have been taken in by the attractive 9%. I currently hold 5% Treasury Stock 2008 (£12500) - I had assumed I would be getting back £12500 - can any of you tell me what return to expect.

[Deleted User]

http://www.bondscape.net/feed.html

this gives the yield updated every day

miaxmia

Thank you, but this is a little above me. I have taken a look and the redemption yield is 4.96%. How do I calculate what is coming back to me?

dunstonh

On final redemption (maturity using simple terms) you get back 100 for every one you hold. If you paid say 90 then you get an increase in what you paid. If you paid 110 then you will get back less than you paid.

This is why the redemption yield needs to be looked at as it is effectively the real return. The yield at issue is not a good guide unless you are buying at issue.

purch

This is why the redemption yield needs to be looked at as it is effectively the real return.

Yes, you will get back at maturity the face value of the Gilts you hold, but it is the price that was paid for them that determines the 'return' on the investment

P.S. I didn't look up the maturity dates dunstonh, on the 2011 stock so I think I just used 3 1/2 years