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On A Yield Hunt, I Bought Agency Bonds

I Own Government Debt With A 3.6% YieldBeing devoted to investing for current income with maximum safety, I’m a firm believer in federally insured CDs.

But I’ve also acquired a taste for 3%-plus yields, having participated in Pentagon Federal Credit Union’s ongoing 3.04% APY 5-year CD promotion.

Unfortunately, I’ve hit my NCUA insurance limit at PenFed and expect no one else to offer a 5-year CD yielding 3% or more anytime soon.

So, I’ve been seriously looking at investments a notch or two higher on the risk scale: federal agency bonds.

Agencies include the obligations of four so-called government-sponsored enterprises — the Federal National Mortgage Association (Fannie Mae), the Federal Home Loan Mortgage Corporation (Freddie Mac), the Federal Home Loan Banks (FHLBs) and the Federal Farm Credit Banks (FFCBs).

These issuers are treated by rating agencies as “directly linked to the rating of the U.S. government,” and their senior long-term debt is accorded the same credit rating as Treasuries — Aaa by Moody’s and AA+ by Standard & Poor’s.

They present greater credit risk, however, than Treasurys and insured CDs because bonds of these GSEs are not backed by the full faith and credit of the United States.

Further, there’s significant interest rate risk posed by longer maturities, which, in the case of 3%-plus yields, means something like 10 years.

The market here is vast and deep.

For example, both new-issue and secondary-market agencies can be readily bought and sold online through Fidelity Investments and Vanguard Brokerage.

But there’s substantial market value risk, because they can only be liquidated before maturity by selling them.

(Unlike most CDs — even brokered CDs — they don’t carry a “survivor option” permitting repayment at face value when the owner dies.)

Given my innate aversion to risk, I’m only experimenting with agencies on a small scale, with strict guidelines.

First, because of their political radioactivity, I won’t touch Fannie Mae or Freddie Mac, the two government-owned companies that finance most of today’s mortgage market.

Second, I’m limiting purchases to bonds protected from early call by the issuer.

Third, with my current income objective and hold-to-maturity philosophy, I’m restricting myself to securities offered at or just below par, or face value, never above par.

This pretty much means new-issue, or at least recently issued, securities.

Thus, I just purchased online, through Fidelity, a non-callable FFCB Bond maturing in August 2024, with a coupon of 3.60% and a current yield of 3.61%.

The highest-yielding new-issue, 10-year, non-callable CD then being offered on Fidelity (CIT Bank) was at 3.30%.

To repeat, I’m only testing the waters and proceeding with caution.

But I am proceeding.

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Comments (4)
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4 Existing Comments

  1. aw said:
    on January 17th at 01:16 pm

    FHLB is backed by the gov, the others are not. Also, FHLB and FFCB are state tax exempt.

  2. Charles Rechlin said:
    on January 17th at 06:59 pm

    Per the website of the FLHB of Boston: “Federal Home Loan Bank debt is not guaranteed by, nor is it the obligation of, the U.S. government.” I am referring to the “consolidated system” debt, which is the joint and several obligation of the regional FHLBs but not an FF&C obligation.

  3. Andrew Frisch said:
    on January 22nd at 05:46 pm

    I’m not sure if its wise to go that far out on the yield curve. What are the transaction costs of buying and selling these agency bonds?

  4. Charles Rechlin said:
    on January 22nd at 11:10 pm

    Fidelity acts as principal, and charges $1 per $1,000 principal amount.for an online purchase or sale of Agencies if done without involvement of a Fidelity rep.