in order to takeadvantage of differences in interest rates between the two countries.This illustrates a very important principle in using the foreign exchange markets. That is, there’s a very strong relationship between exchange rate movementsand interest rate movements in different countries. The basic rule of thumb is “Atequilibrium, the currency of the higher (lower) interest rate country should be selling at a forward rate discount (premium) in terms of the lower (higher) interest ratecountry’s currency.”Thus, if interest rates in Canada tend to be 3 percent below U.S. interest rates,you would expect a forward U.S./Canadian exchange rate to reflect a 3 percent discountfor dollars. Market forces will ensure this result (assuming certain other factors to bediscussed below) because if the exchange rates don’t reflect interest rate differentials(plus transactions costs) exactly, arbitrageurs like in the example above can makemoney by borrowing funds in the high interest rate country, transferring them to thelow interest rate country, and hedging them on a transaction in the forward exchangemarket. If enough money moves from one country to another in this manner, the spotprices of the two currencies will change relative to the forward price until the spreadbetween spot and futures exactly reflects the differences in interest rates between thetwo countries. At that point, the profit opportunities in transferring funds from one country to another will have disappeared, and the exchange rate between the two countrieswill be at what is called interest rate parity.As noted above, some important assumptions have been made in order toshow how interest rate arbitrage is conducted. It works only under certain conditions, including the following two:a. Free flows of funds between the two countries concerned must be possible. In recent years, more and more countries have been instituting certain barriers and controls on the movement of capital into or out of theirborders. Obviously, if the controls are effective, great disparities betweeninterest rate differentials and exchange rates may exist for long periods oftime, and interest arbitrage will not be possible, nor will exchange ratesreflect interest rate differentials.b. Expectations of a devaluation, revaluation, or of the imposition of capital controls on the currencies must be such that they do not outweigh theinterest rate differential factor. Sometimes, people hold such strong expectations of changes in the exchange rate due to factors other than interestdifferentials that interest rate parity considerations are simply overwhelmed.215
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Hedged interest arbitrage transactions, like those described above, are virtuallyrisk-free. The only major risk you take in those transactions is that a country willintroduce strong capital controls that could prevent the fulfillment of the futurescontract or the repatriation of the funds.Opportunities for interest rate arbitrage appear frequently. People who aremanaging large sums of money, whether for corporate accounts or for personalinvestment, should become knowledgeable about interest arbitrage. In the yearsahead, investment managers and advisors will need to be skillful at moving fundsaround the world to various security markets and financial centers. That sort of operation will require an understanding of foreign exchange markets and the conceptof interest arbitrage.
CAPITAL CONTROLSCapital controls (restrictions on the convertibility of domestic currency and foreigncurrency) come in many shapes and sizes and are designed to thwart arbitrage andfree movement of money. They range from relatively simple taxes on holdings offoreign currency assets to burdensome bureaucratic rules covering the uses to whichforeign currency can be put. Britain had very tight capital controls for 40 years untilthey were abolished in the late 1970s. The U.S., for many years after World War II,used the interest equalization tax as a means of controlling capital flow. That tax waslargely responsible for the enormous growth of the Eurodollar market. During thelatter part of September 1992, when the European exchange rate mechanism (ERM)came under pressure, the Spanish government, which was one of the first to feel thepressures, announced new capital controls. The next day, Ireland did the same thing.Neither move was notably successful because investors panicked, and the stockmarkets in the various countries crashed, which only brought more ferocious selling of the currency and forced the break-up of the ERM.Financial innovation and cheap rapid communication have made it mucheasier than ever before to evade capital controls, especially those that are of the clumsy bureaucratic rule type. Even the tightest controls let huge flows of capital leakthrough.Nevertheless, given that capital controls were so popular for so many yearsbetween the 1940s and the 1980s, and given the current belief among governmentbureaucrats that it is extremely difficult to maintain semi-fixed exchange rateswithout capital controls, it is likely that greater pressure will be placed on governments to create new forms of capital controls in their efforts to stabilize exchangerates. They may even attempt a Bretton Woods style agreement again. If so, it,too, will ultimately fail.
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Understanding the “Yield Curve”
If you want to do an intelligent job trading the financial futures market, spend yourtime studying the yield curve.In financial markets, yield refers to the annual rate of return on an investment.It is determined by relating the interest rate, the price paid, and the time remaining on the life of the investment.For example, if you lend $100 for one year at 7 percent, the yield on thatinvestment is 7 percent. If you invest $95 in a note that will mature at the end of oneyear and be worth $100, you have a yield of 5.26 percent (5 ÷ 95 = 5.26 percent).Yields become important because they reflect interest rates in various moneymarket investments. These interest rates reflect powerful linkages that connect themoney market, bond market, stock market, mortgage market, and commodity markets. Money moves rapidly from one market to another, seeking its best return.That return is reflected in the yield.A “yield curve” refers to the shape of the line you get when you plot yieldsof various Treasury securities—or any other homogeneous group of securities—against their various maturities. Normally, you plot maturity dates or time on thehorizontal scale and yields on the vertical scale of the graph (as in Figure 22.1).217Copyright 2001 The McGraw-Hill Companies. Click Here for Terms of Use.
Chapter 22
When a number of issues are plotted on the graph, you will see that a sort ofpattern emerges from the placement of the dots. Draw a line through the dots sothat most of them fall on the line. Those that don’t should be distributed nearly evenly on either side of the line. Now you have a “yield curve” picture. Figure 22.1reflects yields for government bonds and notes of various maturities.
WHY STUDY YIELD CURVES?You should study yield curves for several major reasons. First, it causes you to focusattention on the cash market, something which too few futures traders do. Cash market activity provides clues to price relationships in the futures market. Second, studyof yield curves focuses attention on the concept of value, undervalue, and overvalue. The yield curve becomes a general guide for measuring individual value.As you can readily see in Figure 22.1, not all the dots fall on the “curve.”Those that do not fall on it are candidates to be investigated as possible buy/sell
Figure 22.1 Yield Curve
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Understanding the “Yield Curve”
opportunities. Those represented by dots above the lines are relatively underpricedwhile those below the line are relatively overpriced.
Why the Differences?Variations of this kind usually can be explained by several things:1. Differences in coupon rates. Sometimes bonds that were issued manyyears ago for a special purpose may carry a very low coupon comparedto current rates.2. Difference in the supply of or demand for a particular issue. For example,sometimes particular bonds are in short supply because they are used forthe creation of another security. Or it may be because they have specialuses, such as the old “flower bonds” that were eligible to be used to settle estate taxes at full value. In such cases, where there are only a fewsuch issues around, the demand for them remains high, their price gets bidup, and the yield falls.3. Differences in the marketability of a particular issue. Trading in someissues is naturally more liquid than in others. Generally, short-term issueshave much more liquidity than long-term issues.4. Risks that the general level of interest rates will change in an adversedirection.
THE CHANGING SHAPE OF THE YIELD CURVEIt is not enough to know what yield curves are and how they are derived. You alsoneed to know why they take on the shapes they do.As noted previously, the so-called “normal” yield curve is an upward sloping curve to the right (Figure 22.2). Near-term rates are lower than long-term rates.Money market economists refer to this as a “positive carry” market or a positiveshaped yield curve. You can borrow short-term at one rate and lend long-term athigher rates. That’s the basis of banking.Sometimes, however, the curve takes on a flat look (Figure 22.3). Rates arefairly even across the time spectrum.Sometimes, short-term yields are above long-term yields (Figure 22.4). Thisis referred to as a “negative carry” market or a negative-shaped yield curve.And sometimes, yield curves become humped (Figure 22.5) when short-termrates rise sharply at first, then fall sharply to a point where the curve for long-termrates becomes flat.
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Figure 22.2 Normal Yield Curve
Figure 22.3 Flat Yield Curve
Figure 22.4 Inverted Yield Curve
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Understanding the “Yield Curve”
Figure 22.5 Humped Yield Curve
What does all this mean? Simply that knowing and understanding the yieldcurve, the shapes it takes, and what those shapes mean can provide you with trading ideas. For example, you should expect that a downward sloping yield curve ultimately will return to a normal yield curve.By studying economic fundamentals, you can begin to identify economicsignals that indicate a fall in short-term rates or a change in trends. A logical trading strategy to take advantage of such a change would be a spread between longterm and short-term rates—buy the short-term instruments and sell the long-terminstruments.If the yield curve indeed does return to normal, this strategy is almost sureto be profitable. However, the risk in such a strategy is that the yield curve willbecome even more inverted. If that happens, losses could be enormous. A more prudent strategy would involve buying the intermediate-term, say the five-year, andselling the long-term, say the 10-year or 30-year.Not only do yield curves change shape, but they also shift from one level toanother (as from A to B in Figure 22.6).
THE FUTURES YIELD CURVEJust as you can develop a yield curve for issues traded in the cash market, youalso can develop a yield curve for the futures market (Figure 22.7). The processof constructing the futures yield curve is similar to constructing the cash marketyield curve. The obvious major difference is that you use data from different futurescontracts in a futures yield curve—i.e., 30-day Fed funds; 90-day T-bills; twoyear, five-year, and 10-year T notes; and 15- to 30-year Treasury bonds. Just as inconstructing the cash yield curve, you need to put them all on a bond equivalent221
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Figure 22.6 Yield Curve Shift
Figure 22.7 Futures Yield Curve
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Understanding the “Yield Curve”
basis, and you need to select issues of comparable quality and creditworthiness;i.e., if you use Eurodollar futures instead of T-bills, recognize that Eurodollars represent private credit.This futures curve shifts and changes shape just like the cash market curve.Sometimes it anticipates changes before the cash market adjusts. At other times,it follows or moves in loose conjunction with cash market changes.It’s important to use the same contract months for each of the futures instruments for obvious reasons. Each different futures month represents a differentfuture time period and, therefore, a different expectancy curve. If you mix different delivery months—say, June and December—in the same yield curve, youwould be mixing apples with oranges, comparing a yield curve that reflects theexpected structure of interest rates in June with the expected structure of interestrates in December.
THE STRIP CURVEThe existence of futures markets provides a whole new set of yield curves, reflecting expected rates. But it also allows the development of a third curve called “thestrip curve,” which provides another benchmark of value.By definition, the “strip” is simply a series of successive Eurodollar or T-billfutures contracts. For example, if you were to purchase the December, March,June, and September Eurodollar futures contracts, you would own a one-year strip(see Table 22.1).Ownership of a one-year T-bill strip actually is the same as owning a 12month T-bill because the series of futures provides you with rights to purchase a
Table 22.1 The “Strip”Futures
Price
Yield
Mar.JuneSept.Dec.Mar.JuneSept.Dec.
96.3195.8895.4294.7794.5394.1793.8993.49
3.694.124.585.235.475.836.116.51
1 yr. Strip2 yr. Strip
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90-day T-bill every three months. The four separate bills cover a total maturityspan of 12 months. To obtain that coverage, you simply take delivery of theDecember futures, thus receiving a bill in December that matures in March. Moneyfrom the maturing March bill is then used to take delivery of March futures andreceive another 90-day bill maturing in June, and so on.A major advantage of the strip is that you are completely flexible on the frontend of the strip. Because you always are carrying an “actuals” position at the frontend of the strip, you can move from T-bills to CDs to bankers’ acceptances to Fedfunds, or whatever instrument will provide the best short-term yield while keeping the latter part of the strip intact with the “locked-in” yield. That flexibility provides the opportunity to increase the yield over the period.
COMPOUNDING FACTORThe value of the strip is more than the average of each of the successive futurescontracts because of the effect of compounding interest. Each time a T-bill matures,the interest earned during the life of that T-bill is available for reinvestment during the next quarter. Thus, “interest-on-interest” increases the total return of the Tbill strip. The yield curves for both cash bills and for futures are best compared ifconverted to bond equivalents first.There are, of course, some risks associated with this strategy. If rates changesignificantly, you could receive margin calls on the open futures position. Theopportunity cost of such calls needs to be considered.Further, if you move from one cash instrument to another, transaction costscould get to be expensive. Lastly, if short-term rates on the cash instrument increaserapidly while the longer-term futures do not change or go down, you could getcaught rolling from an instrument with a higher rate to one with a lower rate. Touse this strategy, you need to monitor the markets continuously and be able tomake the necessary calculations easily.In summary, the message is quite simple: Learn to understand the yield curvefor futures as well as the yield curve for the actuals. Once you learn that, you willhave the beginnings of a standard of value. The standard of value then becomesthe means of identifying profit opportunities.
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The Interest Rate Contracts
EURODOLLARS AND T-BILLSSome years ago, a cartoon appeared wherein one fellow standing at a bar looks athis neighbor and says, “What the hell is a Eurodollar?” The addressee responds, “It’sa dollar you can’t touch or pay your bar bill with, but banks let you borrow it.”A Eurodollar is defined as a U.S. dollar on deposit in a bank outside of theUnited States. This generally means dollar balances on the books of London branches of major world banks. Because these deposits lie outside the United States, theydo not fall directly under U.S. jurisdiction and, therefore, the regulations such asreserve requirements and maximum interest rate restrictions that govern domesticdeposits do not apply to Eurodollars. Indeed, it is that regulatory loophole that facilitated and encouraged the explosive growth of the Eurodollar market among banks.The trading of Eurodollar time deposit futures involves several aspects thatare not present in the government securities market. First, Eurodollar deposits reflect
225Copyright 2001 The McGraw-Hill Companies. Click Here for Terms of Use.
Chapter 23
private credit, whereas government securities reflect public credit; hence, the credit risk associated with the trading of the underlying cash instrument is greater forEurodollars than for Treasury bills. That gets reflected in their prices. Usually Tbills trade at higher prices (lower interest rates) than do Eurodollars. Another risk thatarises in the cash market for Eurodollars is a sovereign risk. That risk is independent of the bank with which the funds are placed and relates instead to the country underwhose regulation that bank operates. There is always the risk that a particular country may establish regulations that would affect the movement of back deposits intoor out of the country. That would cause Eurocurrency rates to rise for that country.This happens particularly when a country’s currency is under pressure.Among the most useful and interesting futures markets ever developed arethe contracts for short-term money market investments, Eurodollars and T-bills,which trade at the IMM of the Chicago Mercantile Exchange, and the 30-day Fedfunds and LIBOR contracts at the CBOT. No other contracts are so universal in theirimportance. There is no business enterprise and no borrower, lender, or investorwho is not affected by short-term interest rates.T-bills are direct obligations of the U.S. Treasury. They are sold to investorsthrough the Federal Reserve System, acting as an agent for the Treasury. In this waythe Treasury borrows money to help pay the cost of running the government. TheFed sells T-bills, usually having a life of 90, 180, or 360 days, through a weekly auction. Competitive bids are accepted by the Treasury from Thursday until shortly aftermid-day Monday when the auction is held. T-bills are sold on a discount basis and areredeemed at par value on maturity—90 or 180 days later. For example, a $10,000 Tbill yielding a 4 percent rate of return with 90 days to run would be purchased for$9,900, and 90 days later would be worth $10,000 as the interest is added on daily tothe purchase price. If the interest rate were 6 percent, the value of the 90-day T-billwould be $9,850. It would accrue $150 in interest and be worth $10,000 at maturity.Trading Eurodollar interest rate futures is distinctly different from trading othercommodities. One of the most important differences is that when interest rates goup, the value of the contract goes down and vice versa. To the initiate in financeand to the seasoned futures trader, this seems quite curious. Normally, it wouldseem that, if the price of something went up and you owned it, you should have aprofit on your position. The reason this is not true is because the higher the interest rate, the more earnings will accrue over the life of the security. These future earnings are discounted, and it takes fewer dollars invested today to yield sufficient earnings to bring the price of the security back to par.
THE CONTRACT TERMSThe futures contract for T-bills calls for par delivery of a Treasury bill having a facevalue of $1 million at maturity, which is 90 days after the delivery date. At the226
The Interest Rate Contracts
seller’s discretion, he or she may substitute for the 90-day maturity 91- or 92-dayEurodollars of equivalent value.The Eurodollar futures contract traded at the IMM is based on the LondonInterbank Offer Rate (LIBOR) for time deposits of $1 million and a duration of 90days to maturity. Unlike certificates of deposit (CDs), these time deposits are nonnegotiable. That is why the Eurodollar futures contract became the first futurescontract based on the concept of cash settlement—no delivery, but rather justexchange of cash value differences on the last day of trading.The effectiveness of the cash settlement procedure is confirmed by the greatsuccess of the futures contract. It is the futures with the largest volume and openinterest on U.S. exchanges.The “price” of both the Eurodollar and T-bill futures is quoted in terms of anexchange-devised index representing the actual annualized interest yield subtractedfrom 100. Hence, if you want to know the annual interest yield being representedby a particular futures quote, subtract the quote from 100. For example, an indexnumber of 94.5 represents an annual yield of 5.5 percent. In contrast to interest rates,the index goes down as the contract loses in value and vice versa. Almost all newspapers carrying these futures quotes carry the interest yield price as well as theindex price. Bids and offers in the trading pit at the exchange must be made interms of the index, so be sure that you give your orders to your broker in terms ofthe index. The minimum price fluctuation of the contract is .01 of the IMM index,or one basis point of annual yield. This is equivalent to $25 on a $1,000 contract.
COMPARING A T-BILL FUTURES QUOTE WITH AEURODOLLAR FUTURES QUOTEBoth the T-bill futures contract and the Eurodollar futures contract are quoted ina similar manner. The cash price equals 100 minus the annualized yield (e.g., 100– 8 percent yield equals a futures price of 92.00). The annualized yield for 90-dayT-bills is a discount yield, whereas that for Eurodollars is an add-on interest yield.The distinction needs to be kept in mind especially when comparing prices (onyields) of the two futures contracts.For example, suppose the T-bill futures contract is priced at 92.00 and theEurodollar futures is priced at 91.00. The annualized yields implied by these pricesare 8 percent for the T-bill contract and 9 percent for the Eurodollar contract. Tocompare these yields with each other they need to be put on an equivalent basis.Either convert the discount yield (T-bill futures) to an add-on interest yield(Eurodollar futures) or vice versa.The conversion from the discount yield of the T-bill futures to the add-on interest yield of the Eurodollar futures is as follows:227
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90360360×Add - on Interest Yield =90 901 – Discount Yield ×360 900.08 ×360360=×90901 – 0.08 ×360= 0.08163 (8.163%)Discount Yield ×
Thus, the 8 percent yield quoted on the T-bill futures contract is equivalentto a Eurodollar yield of 8.163 percent when quoted on an add-on interest yieldbasis.
SPREADS BETWEEN T-BILL AND EURODOLLAR RATES—THE “TED” SPREADAs noted earlier, Eurodollar and CD rates reflect private credit, whereas T-billrates reflect public credit. Generally because of the credit characteristics ofEurodollars, rates on Eurodollars will exceed rates on T-bills. Further, the spreadbetween Eurodollar rates and T-bill rates, called the TED spread, does not remainconstant. It responds to a variety of market forces, most of which are unpredictable,and many of which involve political decisions of the United States and foreigngovernments. The spread also reacts to changes in currency relationships.This creates some very interesting and potentially profitable trading opportunities. The margins on the TED spread are very low, mainly because the volatility of the spread differential is much lower than the absolute change in either ofthe independent futures. If Eurodollars change by 10 points in a day, it would beunusual if the spread to T-bills changed by more than one or two points.The TED spread reacts to the business cycle. If business is booming, thespread will tend to be wide. If business is in a recession, the TED tends to be narrowing.Historically, the TED spread seldom stays below +75 (Eurodollar rates overT-bill rates) for more than a few calendar quarters. Similarly, it seldom remainsabove 300 for long (see Figure 23.1).
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The Interest Rate Contracts
Figure 23.1 TED Spread (weekly data)
HEDGING WITH THE T-BILL AND EURODOLLARFUTURES CONTRACTSBoth the T-bill and Eurodollar futures contracts can be used in a variety of waysto hedge other money market instruments such as CDs, commercial paper, bankers’acceptances, and so on. For example, a large corporation could use either contractto lock in the rate on anticipated future borrowings. A bank could use the contractsto facilitate the repricing of its CDs. Yet another example would be for a corporate treasurer to lock in the yield on a future inflow of cash slated for investmentin money market securities.Designing effective hedges requires an understanding of the pricing relationships between the instrument hedged and the instrument underlying the futurescontract. Correlation provides such a measure. If the correlation between the yieldsof CDs and LIBOR exceeds that between CDs and T-bills, it is an indication thatthe Eurodollar contract might be more effective for hedging CDs than the T-bill contract—at least on a pure risk-reduction basis.Another important factor is basis risk. Since hedging is often viewed as anexchange of price risk (absolute risk) for basis risk (relative risk), one must realize that hedges seldom, if ever, result in the total elimination of risk. Basis risk tendsto be higher for hedges where the correlation is lower.
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Finally, if futures markets are to be used to effectively reduce risk, there isan implicit price charged for its reduction. The price is built into the basis. It is bestseen in the case of an anticipatory hedge. Consider a borrower whose borrowingcost is tied to 90-day LIBOR. Suppose the rate on 90-day LIBOR is currently 10percent with the Eurodollar futures for delivery two months hence at 89.90 (10.10percent). The spot rate implies that if borrowing is undertaken immediately thecost would be 10 percent (spot LIBOR). On the other hand, if borrowing is undertaken two months hence, a rate of 10.10 percent could be locked in with certainty through the sale of Eurodollar futures. The 10-basis-point premium may beviewed as a price paid to get rid of the risk that LIBOR could be much higher thanthe current rate of 10 percent.Viewing the size of the basis between a futures contract and its underlyinginstrument as a price paid to eliminate risk in an anticipatory (borrowing) hedgeraises the interesting question as to which contract (T-bill versus Eurodollar) isthe preferred hedging vehicle. As mentioned earlier, correlation between the yieldon the instrument hedged with that of the instrument underlying the futures contract is an important factor, but only from a risk-reduction perspective. For example, it is well-known that the correlation between CDs or commercial paper andLIBOR is generally higher than their correlation with T-bills. So from a pure riskreduction perspective the Eurodollar contract should be the preferred hedging vehicle. However, if the basis between Eurodollar futures and LIBOR is consistentlyhigher than the basis between 90-day T-bills and T-bill futures, the risk premiumin Eurodollar futures is also higher. Therefore, the choice of one contract overanother ultimately should be decided on the tradeoff between the size of the premium and the residual risk from using each hedging vehicle.
TREASURY BONDSTreasury bill futures were so successful initially that futures contracts in Treasurybonds and Treasury notes also began. Bond futures were an immediate success, largely because they covered the long-term end of the yield curve and were a natural complement to T-bill futures. With short-, intermediate- and long-term points covered onthe yield curve, investors now could get decent hedges for an entire portfolio.The par delivery unit on T-bond futures contracts calls for a $100,000 bondwith a 6 percent coupon and minimum maturity of 15 years. (It actually tradesequivalent to the 30-year bond price.) There is no maximum maturity. Prices arequoted in 32nds. Thus, each minimum price change is $31.25.To convert futures prices to actual cash values, the CBOT uses a factormethod. The conversion factors that adjust each available government bond to a6 percent coupon with 15 years to maturity are published regularly by the CBOT.
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This method of calculation almost always results in the bond with the longestmaturity (usually 30 years) being the cheapest for delivery.Treasury bonds are auctioned by the Treasury in the same manner, but lessfrequently than the weekly auctions for Treasury bills. Bids, however, are denominated in yields instead of dollars.
TREASURY NOTESU.S. Treasury notes, like other debt instruments, are sold to public investors toraise funds for financing government programs and to refinance other maturing debtof the U.S. government. Notes, like bonds, are sold at regular auctions and areissued with a coupon that bears interest semiannually.There are a number of Treasury note futures listed on the various commodity exchanges. The Chicago Board of Trade lists the two-year, five-year, and 10year Treasury note futures contracts. The 10-year Treasury futures contract is basedon a government security with a face value of $100,000 maturing in six and a halfto 10 years with a 6 percent coupon. The five-year has a face value of $100,000,and the two-year has a face value of $200,000.Like other coupon issues, Treasury notes are auctioned. With each auctionof notes, the coupon associated with those notes changes and, hence, the list of deliverable notes changes. Each eligible coupon has a different maturity and a different value. Hence, at delivery, the value of the various deliverable notes must be converted to the equivalent of the contract par coupon. This is accomplished through“conversion factors” provided by the CBOT. A seller delivering any one of theseeligible notes calculates the invoice amount for a particular issue by multiplyingthe futures price by the appropriate conversion factor and adding the accrued interest. These conversion factors also become the means for calculating the correct number of contracts to use when hedging.All debt instruments with similar maturity and investment quality are affected by the same economic fundamentals. For this reason, one will find that manydebt instruments move in unison with one another—their yields rise and falltogether. Put another way, they have a high correlation. That high correlationallows one to use Treasury note futures as a hedging tool for the hedging of related instruments.To some extent, Treasury notes, like other government-backed securities,become a price benchmark for the pricing of other securities. Corporate bonds, federal agency issues, and municipal notes are usually priced at a spread to Treasurynotes when they trade in the cash