Strip Bonds Information Centre

International Comparisons

NOTE: I was heavily involved in the development of the Canadian service, as an employee of CDS, and therefore might be considered biased to Canada when making the assessments below. However, if you check out the links to the depositories yourself, you will find that all the statements made here are well supported.

There are many different ways to compare and evaluate strip bond services. Here I have selected two approaches:

I have included links to many web sites where you find this information and more about the strip bond services in these countries. For information when each service started, see Development of strip bond services in various markets.

Functionality offered

NOTE: This information was compiled from information published on the Internet. It is subject to change and corrections without notice. It is intended only as a summary. Some service limitations have not been documented here.

This comparison of functionality looks at the following main aspects of functionality:

Transactions supported

All of the securities depositories that currently offer bond stripping services offer the ability to strip bonds into individual interest and principal payments, and to reconstitute those bonds from the interest and principal payments at a later date.

New Zealand uses a two-step process under which the bonds are stripped first into the principal portion and a portion representing all of the future interest payments; the interest payment portion then may be separated into the individual payments. Taiwan has recently introduced a similar service for certain types of bonds.

Canada is the only market that supports the creation of packages or bundles of strip bonds. This service allows dealers to create combinations of strip bonds from the same issuer, to tailor the cash flows to meet the investor needs. For example, many of the first packages consisted of the principal payment and only the last few years of interest payments from a bond.

Canada also was the first to support the reconstitution of bonds beyond the amount originally stripped (and sometimes even beyond the amount originally issued by the issuer) since 2001. In these cases, the depository holds the strip bonds (from the same issuer) that back the strip bond packages or the reconstituted bonds and uses those payments to fund the interest and principal payments on the strip bond packages and reconstituted bonds. In February 2006, the Dutch State Treasury Agency implemented a similar program for reconstituting a single bond beyond the amount originally issued.

Issues eligible for stripping

All services support the stripping of their domestic federal government bonds, but many limit this to issues paying on certain dates. The U.S. handles the stripping of some bonds for a limited number of additional issuers for whom the Federal Reserve Bank maintains the registry. The table below summarizes the current published eligibility criteria.

Canada is the only country that supports the stripping of 1) all bonds in its domestic market and 2) Canadian issuer bonds issued in other markets. Incredible as it may seem, Canada even supports the "stripping" of T-bills into a principal strip bond. For most investors, a T-bill and a principal strip bond (from the same issuer) maturing on the same date should be equivalent. However, occasionally price differences may arise. The Canadian system gives the market a way to eliminate the differences, by allowing arbitrageurs to freely convert between the two securities. (When this functionality was first introduced more than $1 billion in principal strip bonds was converted to the equivalent T-bill.)

In terms of the characteristics of the underlying bonds that may be stripped, Canada has the broadest eligibility criteria, processing bonds that are callable, retractable, inflation-indexed, structured payments, multiple rates, long and short coupons, and many other features.

The result is that Canada has by far the most stripped underlying bond issues (over 400, when most other markets have less than 50 eligible issues) and the most strip bond issues (over 7,000 issues).

NOTE: As the linkages between depositories increase, there is a potential for CDS to strip additional bonds from other markets, which could lead to problems for investors, traders, and possibly issuers. CDS recently partially recognized this, by excluding U.S. Treasuries from the issues that are eligible for its strip bond service.



Issues eligible for stripping
Country Federal government issues Government agency issues Provincial, state, and local government / agency issues Corporate issues
Austria Yes      
Belgium Yes      
Canada Yes Yes Yes Yes
France Yes      
Germany Yes      
India Yes      
Italy Yes      
Japan Yes      
Korea Yes (future)      
The Netherlands Yes      
New Zealand Yes      
South Africa Yes      
Spain Yes      
Sweden Yes      
United Kingdom Yes      
United States Yes Yes    


Use of generic security numbers

All make interest payments fungible (i.e. use the same security number) if

  1. the issuer and payment date are the same,
  2. there are no special features (such as indexing), and
  3. the issuer is a government or government agency.

Canada takes this further than other countries by:

As of Feb. 17, 2006, the Dutch State Treasury Agency started making principal payments fungible for one pair of bonds (13 years after Canada started using generic principal payments).

See Generic strip bonds for further discussion of the functionality differences related to differences in the use of generic strip bonds.

For inflation-adjusted bonds (or real return bonds as we call them in Canada), the U.S. uses generic interest strips. France announced in April 2007 that it would introduce the same feature. Canada was the first to support the stripping of inflation-adjusted (or real return) bonds, but now is lagging the U.S. and France in this area.

Physical strip bonds

Only Canada and the U.S. provide a means for depository participants to deposit physical strip bonds with the depository. In the U.S., these strip bonds are kept completely separate from the strip bonds created through the depository. In Canada, physical strip bonds are fungible with the depository-created strip bonds. NOTE: For the federal government physical strip bonds, the Canadian depository has an arrangement with the Bank of Canada to have the strip bonds authenticated.

Quantities that can be stripped

All depositories have standards as to the quantity that may be stripped or reconstituted. Most require that the quantity be an integral multiple of 1,000. Canada allows the quantity to be any whole number (i.e. any number greater than zero with no fractions). (The published Canadian procedures state the minimum is 1,000, but it is evident from the Canadian statistics that this minimum is not enforced.)

In most countries, the minimums are established to avoid the creation of fractional positions in the strip bonds. The U.S. now supports the creation of strip bonds to the penny ($.01), which allowed them to reduce the standard multiple to $1,000. In Canada, if a fraction is created, there are rules for rounding the position, which allowed Canada to remove its restrictions on quantities completely.


Degree of automation

From the viewpoint of an investment dealer creating strip bonds, there is a wide range of automation of the services. The U.S. allow for automated or online input of stripping and reconstitution transactions. On the opposite extreme, Canada accepts instructions only on forms which can be faxed or hand-delivered.

For the assignment of strip bond security numbers, most countries automatically assign the numbers as the underlying bonds are made eligible for the service. Due to its broad eligibility criteria, Canada has always assigned strip bond security numbers only on request from an investment dealer or other financial institution.

Since the volume of transactions related to the stripping and reconstitution of bonds is relatively low in most countries, automation is probably not a significant factor in most countries.

Reporting

Most countries provide some kind of reporting on the quantities of the underlying bonds that have been stripped. Canada is the only one I know of that also provides information on the quantity of the strip bonds outstanding, saving investors the trouble of calculating these quantities manually. However Canada provides this information only on a paid subscription basis, which is unique. Canada provides information on the quantity of strip bonds packages outstanding on the same basis. Interestingly, CDS (the Canadian securities depository) that owns the data and formerly marketed the data itself now has struck a deal so that the TSX assumes that responsibility as of June 2007.



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Copyright Keith Campbell ©2002-2007. All rights reserved.