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Transcript of lehmanagencies
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Guide to
Agency &
Government-RelatedSecurities
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3
Contents
Introduction to the Agency Debt Market ........................................................... 5
Table of Government Links to Issuers of Agency Debt ................................. 10
Federal National Mortgage Association (FNMA) .......................................... 13
Federal Home Loan Mortgage Corporation (FHLMC) .................................. 15
Federal Home Loan Bank (FHLB) ..................................................................... 17
Resolution Funding Corporation (REFCORP) ................................................ 19
Tennessee Valley Authority (TVA)................................................................... 21
Federal Farm Credit Banks (FFCB) ................................................................... 23
Financing Corporation (FICO)........................................................................... 25
Student Loan Marketing Corporation (SLMA) ............................................... 27
Private Export Funding Corporation (PEFCO) ............................................... 29
Government Trust Certificates (GTC) .............................................................. 31
Agency for International Development (AID) ................................................ 33Financial Assistance Corporation (FAC) ......................................................... 35
General Services Administration (GSA) .......................................................... 37
Small Business Administration (SBA) .............................................................. 39
U.S. Postal Service (USPS) .................................................................................. 41
Appendix .............................................................................................................. 43
* Listed in order of their size in the Lehman Brothers Index.
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Introduction to theU.S. Agency Debt Market
The agency debt market has grown in size and stature within the U.S.fixed income market over the past few years. Figure 1 highlights the growingsize of agencies within the Lehman Brothers Aggregate and Government
indices. With this dramatic increase in size, the agency market has also
experienced increased liquidity and now plays a more central role in fixed
income portfolios. A larger percentage of the Agency Index is now in large,
liquid, bullet issues (Figure 2).
Figure 1. Agency Index as a Share of theLehman Brothers Aggregate Index
Aggregate Index Government Index1/31/96 6.5% 12.3%1/31/97 6.5 12.81/31/98 6.7 13.61/31/99 8.6 18.91/31/00 9.3 22.41/31/01 10.8 29.2
Figure 2. Agency Index Composition*
% of Index Containing Issues That Are
Over $1 billion Callable
Jan-98 26 50Jan-99 35 42Jan-00 62 29Jan-01 75 20
*Index inclusion rules changed in June 1999.
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Lehman Brothers Guide to Agency & Government-Related Securities
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One of the fundamental aspects of the agency market is that the debt is issued
by corporations, some of whose shares trade publicly. Yet agency debt is
classified in the Government Index and trades at a narrow spread over U.S.
Treasuries. This is due to the strong links between the agencies and the
U.S. government.
Agency market issuers, which comprise federal agencies and government
sponsored enterprises (GSEs), were created by the U.S. Congress to fulfill
specific public policy functions. Most of these public charters revolve around
providing credit to important sectors of the economy, such as housing,
agriculture, education, exports, and small businesses.
IMPLIED GUARANTEE
Although most agency and GSE debt is not backed by the full faith and credit
of the federal government, investors generally treat agency securities as if
they had negligible credit risk. Because of the importance of the agencies in
promoting public policy, there is a widespread view that the federal govern-
ment would prevent an agency or GSE from defaulting on its debt obliga-
tions. As a result, the agencies and GSEs enjoy what is commonly described
as an implied guarantee.
THE ISSUERS
Agency and GSE issuers may be separated into three categories: frequent
domestic issuers, other domestic agency issuers, and U.S. government-spon-
sored international development agency issuers. All of the frequent domestic
issuers are GSEs: Federal Farm Credit Banks, Federal Home Loan Banks,
Freddie Mac, Fannie Mae, and the Tennessee Valley Authority. These GSEs
borrow in the capital markets and use the proceeds to support home, student,
farm, and other types of loans.
In the category of other domestic agency issuers, FICO, GSA, and SBA are
federal agencies. Sallie Mae, REFCORP, and the U.S. Postal Service are GSEs.
The category of U.S. government-sponsored international development agency
issuers includes the Agency for International Development (AID), Govern-
ment Trust Certificates (GTC), and the Private Export Funding Corporation
(PEFCO). It also includes parts of the Foreign Military Sales Program, which
is partially guaranteed by the Department of Defense. In this category, only
AID is a federal agency.
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Lehman Brothers Guide to Agency & Government-Related Securities
7
The largest issuers in the agency market are the housing GSEs. As can be seen
from Figure 3, Fannie Mae, Freddie Mac, and the Federal Home Loan Banks
make up the bulk of the agency market. A large part of the recent growth in size
of Fannie Mae and Freddie Mac has come through their Benchmark and
Reference Note programs, respectively. These programs have focused on
replicating the issuance pattern of the Treasury, with a scheduled calendar of
issuance and large liquid issues at major maturity points along the curve. This
has contributed greatly toward improving liquidity in the agency debt market.
A complete breakdown of the share of the various issuers in the Lehman
Brothers Agency Index is given in Figure 4.
Figure 3. The Agency Market Is Dominated by the Housing GSEs
Others
13%
FHLMC
26%
FHLB
19%
FNMA
42%
Figure 4. Issuers by Share in the Lehman Brothers Index
Issuer Share of IndexFNMA 42.42%FHLMC 25.52FHLB 18.67REFCORP 6.21TVA 2.70FFCB 1.60FICO 1.51SLMA 0.45
PEFCO 0.13GTC 0.09NARC 0.05GLT (AID) 0.04Others 0.61
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Lehman Brothers Guide to Agency & Government-Related Securities
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BENEFITS OF AGENCY AND GSE STATUS
Agency and GSE status provides advantages that are not available to other
debt issuers. These include the ability to borrow funds more cheaply in the
capital markets, the benefit of maintaining less capital in business processes,
and certain exemptions from state and local taxes. There are other features of
agency securities that lend support to their implied government backing. For
example, they are acceptable as a security for the deposit of public monies
under U.S. control. National banks and state chartered banks in the Federal
Reserve System may deal in, underwrite, purchase, and hold agency securities
for their own accounts without limitation. Agency securities can be used as
collateral to secure advances to depository institutions from Federal Reserve
Banks and as investments for federally chartered savings banks. Agency issueswith remaining maturities of five years or less may be counted as liquidity-
qualifying investments under regulations prescribed by the Office of Thrift
Supervision for savings associations. In addition, most are acceptable as
purchases by the Federal Open Market Committee in its day-to-day imple-
mentation of monetary policy and as legal investments for federal credit
unions. More recently, agency debt has been made acceptable as collateral in
repo operations with the Federal Reserve.
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Lehman Brothers Guide to Agency & Government-Related Securities
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Issuers of Agency and Government-Related Securities
FNMA FHLMC FHLB REFCORP TVAChartered by act of Congress Yes Yes Yes Yes Yes
Public stock outstanding Yes Yes No No Federal
President or presidential appointees Yes Yes Yes Yes Yesappoint some board members
Authority to borrow from the Treasury Yes Yes Yes Yes Yes
Treasury approval of debt issuance Yes Yes Yes Yes Yes
Eligible for Federal Reserve open Yes Yes Yes Yes Yes
market purchases
Use of Federal reserve as fiscal agent Yes Yes Yes Yes Yes
Eligible to collaterize public deposits Yes Yes Yes Yes Yes(all U.S. Government; most state and local)
Exempt from 1933 SEC registration Yes Yes Yes Yes Yes
Government securities for purposes of Yes Yes Yes Yes Yesthe Securities Exchange Act of 1934
Eligible for unlimited investment by national Yes Yes Yes Yes Yesand state bank Federal Reserve members
Exemption of corporate earning from No No Yes Yes Yes
federal income tax
Exemption of corporate earning from Yes Yes Yes Yes Yesstate and local income tax
Coupon interest usually exempt from No No Yes Yes Yesstate and local income tax
Federal Regulator OFHEO OFHEO FHFB Yes None
Explicit U.S. Government guarantee No No No No No
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Lehman Brothers Guide to Agency & Government-Related Securities
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FFCB FICO SLMA PEFCO GTC AID FAC GSA SBA USPSYes Yes Yes No Yes Yes Yes Yes Yes Yes
No No Yes No Private No Federal Federal No No
No Yes Yes No N.A. Yes Yes No Yes No
No No Yes No N.A. Yes Yes No No Yes
No Yes Yes No Yes N.A. Yes Yes No Yes
Yes Yes Yes Yes Yes N.A. Yes Yes No Yes
Yes Yes Yes No No No Yes Yes No Yes
Yes Yes Yes No No Yes Yes Yes Yes Yes
Yes Yes Yes Yes No Yes Yes Yes Yes No
Yes Yes Yes Yes Yes Yes Yes Yes Yes No
Yes Yes Yes Yes Yes Yes Yes Yes Yes Yes
Yes Yes No No Yes Yes Yes No No No
Yes Yes Yes No Yes Yes Yes Yes Yes Yes
Yes Yes Yes No No No Yes Yes No Yes
FCA FHFB None None None None FCA FCA None No
No No No Yes No Yes Yes Yes Yes No
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FNMA
The Federal National Mortgage Association was created by Congress in 1938
to provide supplemental liquidity in the mortgage market. It has historically
fulfilled this objective by borrowing in the capital markets and using theproceeds to purchase mortgages from lenders who originated them. This
approach attracts funds from investors who might not otherwise invest in
mortgage loans, thereby expanding the pool of funds available for housing.
Through its nationwide orientation, Fannie Mae also helps redistribute mort-
gage funds from capital-surplus to capital-deficient areas.
Fannie Mae also issues mortgage-backed securities (MBS) based off the pools
of mortgages it purchases from lenders. The issuance of MBS makes the
secondary mortgage market more liquid, thereby lowering the cost of issuing
mortgages. Fannie Mae is an active participant in the secondary MBS market
as well, buying MBS and funding them with its debt issuance.
In 1968, Fannie Mae was converted from government ownership to a federally
chartered stockholder-owned, privately managed corporation. The new charter
Creation Purpose Use of Funds Issue Types Guarantee
1938 NationalHousing Act
Providesupport and
liquidity to theU.S. mortgage
market
Purchasemortgages and
mortgage-backedsecurities
Discountnotes, MTNs,
Senior andSubordinatedBenchmark
Notes.
None;obligations of
FNMA
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gave Fannie Mae the ability to borrow in the worlds capital markets at lower
rates than those generally available to unrestricted private companies. This
change enables Fannie Mae to fulfill its dual objectives: to provide liquidity to the
residential mortgage market and a profit to its stockholders. In the 1970s, Fannie
Maes financial performance was reflective of its balance sheet. Its assets were
predominantly long-term fixed-rate mortgages financed by borrowings of sub-
stantially shorter maturities, and as a result, earnings were subject to swings in
interest rates. Fannie Maes balance sheet still consists of mortgages and debt,
but due to changes that began in the early 1980s, its earnings are far less affected
by volatile interest rates.
Fannie Mae now receives a portion of its income through the guarantee fees itearns on ensuring the timely payment of principal and interest on the MBS it
issues. Fannie Mae also expanded its mortgage portfolio rapidly in the 1990s,
which contributed to improved earnings. By 3Q00, Fannie Mae had close to
$600 billion of mortgages outstanding in its portfolio.
By matching the effective maturities of assets and liabilities, Fannie Mae has
made interest income less sensitive to the level and volatility of interest rates.
The agency issues callable debt and enters derivative transactions to obtain a
closer match between its assets and liabilities.
Fannie Mae has also shifted its long-term funding needs to its Benchmark
program, which began in 1998. Under this program, Fannie Mae issues large
liquid notes across various maturities on the curve based on a pre-announced
calendar. This program has improved the liquidity in the agency market and
lowered Fannie Maes cost of funding. As of September 30, 2000, there was a
total of $611 billion dollars in outstanding debt.
Fannie Mae has come under closer scrutiny of late, with some members of
Congress proposing to reform the housing GSEs. The role of the housing GSEs
in the mortgage market and the cost and benefits of their preferential funding
have come under closer examination. In response to this debate on greater
regulation, Fannie Mae, along with Freddie Mac, announced a series of
voluntary measures in October 2000. These include an increase in their capital
base through the issuance of subordinated debt, independent third-party
ratings, public disclosure of risk sensitivity analysis, and the maintenance of
liquid assets to tide over a financial crisis.
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FHLMC
The Federal Home Loan Mortgage Corporations, Freddie Mac, was created
in 1970 as an instrumentality of the U.S. government with a mandate to
increase the availability of mortgage credit to finance housing. To reflectthe enormous changes in the countrys mortgage and housing mar-
kets since 1970, FIRREA, enacted in 1989, restated Freddie Macs purpose:
the agencys goal is to stabilize the secondary market for home mortgages
by helping to distribute investment capital available for financing
home mortgages.
Freddie Mac buys mortgage pools from lenders and securitizes them into
guaranteed securities (called Mortgage Participation Certificates, or PCs).
These securities are sold to investors in the secondary fixed income market.
In this way, Freddie Mac links the mortgage markets to the capital mar-
kets. Freddie Mac is also an active investor in the secondary MBS market,
repurchasing its own PCs. These purchases are financed by the issuance of
its debt. As of the end of 3Q00, Freddie Mac had over $360 billion of
mortgages as assets.
Creation Purpose Use of Funds Issue Types Guarantee
1970Emergency
Home FinanceAct
Providesupport and
liquidity to theU.S. mortgage
market
Purchasemortgages and
mortgage-backedsecurities
Discountnotes, MTNs,
Senior andSubordinated
ReferenceNotes
None;unsecured
obligations ofFHLMC
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The bond and equity holder of most agencies that are privately owned but
serve a public purpose have always assumed the risk that changing priorities
required in fulfilling the agencys public debt charter might be detrimental to
bondholders. The passage of FIRREA has generally helped with this problem:
Freddie Mac was once considered a source of cash to help cover some of the
cost of the thrift bailout, but under the new structure, it is virtually divorced
from thrift industry problems. Although legislation may direct Freddie Mac to
act in a way that a private corporation might not (i.e., providing mortgage
credit for housing low- and moderate-income families), Congress also recog-
nizes Freddie Macs right to earn a reasonable economic return for doing so.
As part of its risk management measures to better match its callable mortgageassets and predominantly bullet debt liabilities, Freddie Mac is an active
participant in the fixed income derivatives market. Freddie Mac also issues
callable debt to replicate the characteristics of its assets more closely.
Being among the top global issuers, Freddie Mac issues debt securities that are
unsecured obligations of the agency; they are not guaranteed by nor do they
constitute debt obligations of the U.S. government. Beginning in 1998, Freddie
Mac has been issuing a large portion of its debt under the Reference Note
program. Under the program, Freddie Mac issues large liquid notes to the
market on a scheduled calendar. The program has been extremely successful
and improved the funding levels of Freddie Mac. Freddie Mac has also
launched the Reference Note program in Europe, issuing debt in euros and
tapping into a larger investor base. In another innovative move, Freddie Mac
began auctioning its 2- and 3-year Reference Note in 2001. At the end of 3Q00,
Freddie Mac had over $350 billion in outstanding long-term debt.
Recently, Freddie Mac has come under some scrutiny from members of
Congress, who have felt that the preferential funding received by Freddie Mac
is unfair to private lenders and also creates systemic risk in the financial
markets. A compromise deal was worked out in October 2000, whereby
Freddie Mac, along with Fannie Mae, agreed to undertake certain voluntary
measures to allay fears of systemic risk. Some of these measures included an
increase in their capital base through the issuance of subordinated debt,
independent third-party ratings, public disclosure of risk sensitivity analysis,
and the maintenance of liquid assets to tide over a financial crisis.
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FHLB
In 1932, Congress passed the Federal Home Loan Bank Act to revitalize the
thrift industry ravaged by the Great Depression. Its primary goal was to
restore confidence in the industry, to encourage savings, and, thereby, toprovide for affordable home ownership through a stable supply of mortgage
credit. The legislation created the Federal Home Loan Bank System, consist-
ing of the Federal Home Loan Bank Board and twelve regional banks. The
Federal Home Loan Banks do not directly fund mortgages, but make ad-
vances to thrift institutions, commercial banks, and credit unions that make
new mortgage loans. In this way, the banks can closely match the duration
of their assets and liabilities while prepayment risk remains with the thrift
making the mortgage loan.
More recently, the Home Loan Banks have embarked on an Mortgage Partner-
ship Finance (MPF) program, in which the Home Loan Banks retain the mort-
gage loans on their books and manage interest rate and prepayment risk while
passing off the credit risk to the members that originated the loan. For this, the
Home Loan Bank pays the member institution a credit enhancement fee.
Creation Purpose Use of Funds Issue Types Guarantee
1932 FederalHome Loan
Bank Act
Restoreconfidence inthrift industry
Credit fordeposits and
mortgagefunding formember
institutions
Consolidatedbonds,
discount notes,and MTNs
None; jointand several
obligations ofFHLBs
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The Federal Home Loan Banks are instrumentalities chartered by the federal
government but owned and capitalized by member institutions. For members, the
benefits of ownership include access to FHLB credit and dividends on their capital
stock. A regional FHLB, in its role as central bank to its members, provides deposit
services, processing services, and securities safekeeping. Its most important role,
however, is providing credit. Typically, the FHLB might help an institution meet
seasonal deposit outflow through short-term credit or stimulate mortgage lending
by providing longer-term credit. In either case, the primary means of raising
necessary funds is through borrowing in the credit market.
To provide funds to cover the losses incurred by the thrift industry in the 1980s,
Congress enacted the Financial Institutions Reform, Recovery, and EnforcementAct of 1989 (FIRREA). FIRREA both directly and indirectly affected the FHLB. For
example, FIRREA expanded the category of institutions eligible to become
members of the FHLB to include both commercial banks and credit unions with
at least 10% of their assets in home mortgages. The FHLB System Modernization
Act was implemented in 1999 to achieve additional reform. Its main objectives
were to expand membership and borrowing access, increase the autonomy of the
Federal Home Loan Banks, and broaden the viable loan collateral.
FHLB debt securities are not obligations of the United States and carry no govern-
ment guarantee. They are joint and several obligations of the 12 Federal Home Loan
Banks; each bank is responsible not only for repayment of its own participation in
a debt issue but also for the indebtedness of the entire FHLB system.
FHLB financing requirements are coordinated through the Office of Finance,
which serves as fiscal agent for the 12 district banks. After canvassing the
individual banks as to their financial requirements, the Office of Finance
consolidates the debt, fulfilling the borrowing needs of several banks with fewer
debt issues than would be necessary if each bank came to market independently.
This coordinated debt market strategy improves the liquidity of FHLB securities
and reduces financing costs to the FHLB system.
The Office of Finance issues FHLB debt as consolidated bonds, discount notes,
and MTNs. Consolidated bonds are issued with maturities ranging from one to
ten years; discount notes mature in one year or less. MTNs are issued with
maturities of one year and longer. FHLB is permitted to issue no more than
20 times the total capital of the bank system. In addition, the FHLB had
$577 billion of consolidated debt obligations at the end of 3Q00.
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REFCORP
The Resolution Funding Corporation was created by FIRREA to provide funds to
the Resolution Trust Corporation (RTC) in order to help resolve the Savings and
Loan failures. FIRREA authorized REFCORP to issue up to $30 billion in bonds,notes, debentures, and similar obligations. This authority was complete by January
1991, after REFCORP had brought to market two 40-year bond issues (totaling
$10.5 billion) and four 30-year bond issues (totaling $19.5 billion). The bonds may be
stripped and are eligible for reconstitution to the same extent as Treasury bonds.
REFCORP operates as a Treasury agency under the direction of the RTC
Oversight Board, whose chairman is the secretary of the Treasury. REFCORP
bonds are attractive to investors because they are more like Treasury than
agency securities; whereas most agency securities are distributed through
selling groups, REFCORP bonds were sold through an auction process virtually
identical to Treasury auctions.
There is no explicit government guarantee on REFCORP bonds, more for
budgetary reasons (i.e., keeping certain thrift resolution outlays off-budget to
Creation Purpose Use of Funds Issue Types Guarantee
1989 FIRREA Provide fundsto RTC
Resolve thriftproblems
30- and 40-yearbonds
Interest shortfallby Treasury;
principaldefeased with
U.S. Treasuries
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avoid Gramm-Rudman law repercussions) than to divorce the government from
its role in the REFCORP structure. FIRREA specified sources to repay interest
and principal on REFCORP bonds, and all funds are ultimately backed by the
U.S. government.
REFCORP must hold Treasury zero-coupon bonds with face value equal to the
aggregate amount of REFCORP bonds outstanding. Upon maturity, principal
must be repaid with funds from the maturing zeros. According to FIRREA,
REFCORP will obtain funds to pay interest on its obligations from the follow-
ing sources: earnings on certain assets, proceeds from the RTC, payments from
the FHLBs, and proceeds from the sale of assets. According to the Treasury
backup statement, if the amounts available from these sources are insufficientto cover the interest payments, the secretary of the Treasury will pay the
additional amount due. These funds are permanently appropriated and are
not subject to sequestration under the balanced budget law.
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TVA
The Tennessee Valley Authority Act of 1933 established the TVA as both a
corporation owned by the U.S. government and a government agency. Its
purpose is to strengthen the regional economy and the national defense bycontrolling the Tennessee River and its tributaries, supplying electric power to
an area of approximately 80,000 square miles with a population of about
7.0 million, and operating chemical plants for fertilizer development and na-
tional defense uses. TVA is a wholesaler of power to local distributors, federal
agencies, and industries. It has the nations largest electricity generating capac-
ity. While TVA oversees both power and non-power programs, it can issue debt
only in connection with its power program and has the authority to borrow up
to $150 million from the U.S. Treasury. TVAs three board members are ap-
pointed by the president and confirmed by the Senate. Its borrowings are a part
of the federal budget and the TVA Act guarantees it a line of credit with Treasury.
TVA bonds are payable from net power proceeds and are not direct obligations
of, or guaranteed by, the U.S. government. Net power proceeds are defined as
gross revenues less the cost of operating, maintaining, and administering its
Creation Purpose Use of Funds Issue Types Guarantee
1933 TennesseeValley Act
DevelopTennessee
Valley resources
Meet current andfinance capitalexpenditures
Discount notes,power bonds
with 5- to50-year
maturities
None;obligations of
TVA
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TVA power properties and state and local taxes. Amortization of capital
expenditures is not deducted in the net power proceeds calculation. TVA is
required by stature to charge rates that cover debt service. In fiscal year 1999,
TVA had net power proceeds of $6.5 billion and interest expense of $1.8 billion.
Interest on TVA securities is exempt from state and local taxes. These securities
are eligible as collateral for Treasury tax and loan accounts and are exempt
under the Securities Act of 1933 and the Securities Exchange Act of 1934.
TVA has authority to borrow $30 billion; as of September 30, 2000, it had
$25 billion in outstanding debt. Bonds have been issued with maturities from
5 to 50 years. Discount notes are also sold, with maturities of up to 360 days.
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FFCB
The Federal Farm Credit System is a network of cooperatively owned
lending institutions that provides credit services to farmers and farm-
affiliated businesses such as agricultural cooperatives and rural utilities. TheFarm Credit Banks are not depository institutions, but financial intermediar-
ies that borrow in the capital markets and use the proceeds to make loans and
provide other assistance.
Farm Credit institutions are chartered by the U.S. government and operate
under the Farm Credit Act of 1971 and its amendments. The Farm Credit
Administration (FCA), an independent agency in the executive branch of the
federal government, has the task of regulation and oversight. The FCA is
managed by a three-member board appointed by the president of the United
States with the advice and consent of the Senate.
When farmers borrowed aggressively in the 1970s to expand production, a
growing farm-lending network was justified. However, the highly leveraged
farmer of the 1970s helped contribute to the farm crisis in the mid-1980s.
Creation Purpose Use of Funds Issue Types Guarantee
1971 FarmCredit Act
Act as financialintermediary
to provide creditto farmers
Provide short-and long-term
loans tofarm and
farm-affiliatedbusinesses
Consolidatedsystemwidenotes and
bonds, MTNs
None; jointand severalliabilities of
FFCBs
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Since then, farmers have begun to reduce debt. By passing the Agricultural
Credit Act of 1987, Congress recognized the contraction that had taken place
in farm lending and began to reduce overheads and streamline operations to
revitalize the Farm Credit System. The act consolidated the FFC Banks and
created the Financial Assistance Corporation (FAC) to provide capital to
Farm Credit institutions experiencing financial difficulty.
The system obtains funds for the lending operation primarily through the sale
of notes and bonds. The banks maintain a fiscal agent, the FFC Banks Funding
Corporation, to handle issuance and marketing of these securities. By sharing
one fiscal agent, member banks determine their degree of participation in a
debt issue while maintaining the marketability associated with consolidatingthe borrowing needs of many banks into a few issues.
The consolidated system-wide notes and bonds of the FFC Banks are neither
obligations of, nor guaranteed by the U.S. government. However, investors are
protected in several ways. First, each bank must maintain eligible collateral at
least equal in value to the total amount of its debt obligations outstanding.
Second, while each bank determines its own participation in a debt sale, all of
the banks are jointly and severally liable. This means that each bank can be held
financially responsible for the notes and bonds issued by all other banks,
making financial problems at one or two institutions less important than the
health of the overall system.
The Farm Credit Banks generally borrow by issuing either notes or bonds. The
total amount of outstanding debt as of September 30, 2000, was $74 billion.
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FICO
In 1987, President Reagan signed a 12-title banking bill, part of which directed
the Federal Home Loan Bank Board to create the Financing Corporation. FICO
was given the authority to borrow $10.825 billion for the purpose of recapital-izing the Federal Savings and Loan Insurance Corporation (FSLIC) through
the transfer of proceeds from FICO debt to FSLIC. The legislation creating
FICO explicitly states that interest and principal on its debt obligation are not
backed by the full faith and credit of the U.S. government.
FICO was the centerpiece of the 1987 plan to recapitalize FSLIC. The Financing
Corporation is managed by a three-member directorate, including the director
of the FHLB Office of Finance and two presidents of the 12 regional FHLBs. The
12 regional Federal Home Loan Banks were authorized to provide up to
$3 billion in seed money for the Financing Corporation; however, most of its
funds have been raised in the credit markets through the sale of long-term
bonds. Net proceeds received by FICO were invested in FSLIC, which used the
funds to manage certain insolvent and troubled thrifts. With the passage of
FIRREA, the Resolution Funding Corporation became responsible for raising
Creation Purpose Use of Funds Issue Types Guarantee
1987Competitive
Equality BankingAct
RecapitalizeFSLIC
Manageobligations of
insolvent thrifts
Long-termbonds (noneissued sinceSeptember
1989)
Principaldefeased with
U.S. Treasuries
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money to manage problem thrifts. FICO last issued securities in 1989, and no
future debt issuances are expected.
FICO issued $8.2 billion of debt between October 1976 and September 1989 as
30-year coupon-bearing securities. More than half of these bonds ($4.68 billion)
had been stripped and sold as zero-coupon bonds.
To ensure payment of principal on the bonds, the Financing Corporation has
purchased enough zero-coupon U.S. government-guaranteed securities to
make total principal payable maturities approximately equal to the face value
on FICO obligations.
Interest payments on the bonds will be met through FICOs assessments on
deposits insured by the Savings Association Insurance Fund (SAIF), exit fees
charged to institutions transferring funds from SAIF to the Bank Insurance
Fund, and investment income on FICO. The Financing Corporation has been
granted authority to make a regular assessment of up to 1/12% of deposits. A
special assessment of 1/8% may also be levied if the FHLB board and FICO
directorate find it necessary to meet interest obligations.
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27
SLMA
The Student Loan Marketing Association is a federally chartered, stockholder-
owned corporation established by the Higher Education Act of 1965 to provide
liquidity for banks, thrifts, and other lenders that originate Guaranteed Stu-dent Loans (GSLs). Sallie Mae creates a national secondary market for GSLs by
purchasing loans, or by using a warehousing advance program through which
it advances funds to institutions that issue loans to students. Sallie Mae issues
debt and equity securities to finance these activities.
The GSL Program provides funds for higher education. While the program
has evolved over the years, first into the Stafford Loan program and then into
the Federal Family Education Loan Program (FFELP), loans are still origi-
nated primarily by commercial banks but are also offered by state agencies
and educational institutions. The program provides that the government
will pay interest on the loan while borrowers are in school; when the
borrowers graduate or leave school, they become accountable for interest
and principal payments. The government assures lenders a market rate of
return on the notes.
Creation Purpose Use of Funds Issue Types Guarantee
Amendments to1965 Higher
Education Act(1972)
Provide liquidityto lenders
for loans tostudents andeducationalinstitutions
Facilitate loanpurchases,
warehousing,and forward
commitments
Debt securities,notes, and
MTNs
None;obligations of
SLMA
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With the government getting more directly involved in issuing student loans
under the Clinton administration, the need for a GSE in the student loan market
was reduced greatly. In an act passed in 1996, Sallie Mae was restructured to
phase out its GSE status. The corporation currently consists of a GSE and a non-
GSE subsidiary, with the GSE to be phased out by 2008. As of year-end 1998,
there was $367 million outstanding in issues with maturities after 2008. These
issues are to be defeased with Treasuries.
The SLM Holding Corporation, which was created as part of the 1996 Act, has
undergone a lot of organic growth since then. In July 1999, it purchased Nellie
Mae, followed by the Loan Funding Resources Inc. in 2000. In the same year,
it was renamed USA Education, Inc. after acquiring several divisions of theUSA Group. As a consolidated fully privatized corporation, USA Education,
Inc. is the largest U.S. supplier of education loans and financing.
The largest asset on USA Education Inc.s balance sheet is the FFELP Program,
which includes loans directly purchased or indirectly financed through the
warehousing advance program. The advances are fully collateralized by GSLs,
or by marketable government securities if the advances are to be used for
financing future loans.
USA Education Inc. has also accumulated a substantial investment portfolio,
giving it liquidity and tax management flexibility. Total cash and investments
have risen from $11.3 billion in 1990 to $45.6 billion at the end of 3Q00, with
$35.9 billion worth of student loans. The outstanding debt as of September
2000 was $42.6 billion.
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29
PEFCO
The Private Export Funding Corporation was created in 1970 with the support
of the U.S. Department of Treasury, and the Export-Import Bank of the U.S.
(Eximbank). The agency is owned by 44 commercial banks, seven industrialcorporations, and one investment bank. PEFCO fulfills its purpose of increas-
ing the funding available for financing exports of U.S. goods and services by
making dollar-denominated loans to foreign importers.
The timely payment of principal on PEFCO loans is backed by an equivalent
principal amount of obligations, backed by the full faith and credit of the
United States, that mature prior to the notes they collateralize. Interest pay-
ments are directly guaranteed by the Eximbank. The U.S. attorney general, in
a 1966 opinion, stated that obligations of Eximbank constitute general obliga-
tions of the United States; thus, both principal and interest of PEFCO bonds are
backed by the full faith and credit of the U.S. government.
At September 30, 2000, the end of the fiscal year, PEFCO had total share-
holder equity of $62.4 million and total assets of $4.6 million. Total securities
Creation Purpose Use of Funds Issue Types Guarantee
1970, supportedby U.S. Treasury
and Eximbank
Fund exportsof U.S. goodsand services
Provide dollar-denominated
loans for foreignimporters
Secured noteswith maturities of5 years or longer
Interest byEximbank; princ.
by obligationsbacked by
full faith andcredit of U.S.Government
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outstanding were $4.5. billion. Issues dated prior to 1985 have sinking fund
schedules, while the more recent issues are noncallable.
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31
GTC
As part of the Foreign Military Sales Program (FMS), the U.S. government
lends money to key allies for the purchase of American military equipment. In
late 1987, Congress passed legislation to authorize refinancing of MS loansthrough the public debt market.
Several foreign governments, including El Salvador, Jordan, Israel, Morocco,
Pakistan, Tunisia, and Turkey, have taken advantage of this legislation to
reduce their debt service burdens by issuing securities.
Government Trust Certificates securities are backed by the foreign countrys
obligation to make payments and a U.S. government guarantee covering 90%
of principal and interest. The remaining 10% of payments is to be defeased with
obligations of the U.S. Treasury.
If the foreign country misses a payment, notice of default is given to the
Department of Defense and payments of 90% of principal and interest due are
made to the trust under the terms of the guarantee; the remaining 10% of
Creation Purpose Use of Funds Issue Types Guarantee
1987 Legislationon Foreign
Military Sales
Help foreignbuyers of
U.S. militaryequipmentrefinancepurchases
Facilitatefinancing of
foreign militarysales loans
Current couponbonds and
zero couponcertificates with
3- to 20-yearmaturities
Principal andinterest: 90%guaranteed by
the U.S.Government,
10% defeased byU.S. Treasuries
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principal and interest comes from U.S. Treasury securities that pay on or before
each trust payment date. Through this process, the certificate holders continue
to receive 100% of each payment.
GTC securities match payments on pools of loans. To replicate flows, both
current-coupon bonds with set paydown schedules and zero-coupon certifi-
cates with maturities between 1990 and 2015 have been issued. Stated pay-
ments cannot be accelerated or slowed.
Securities are issued through grantor trusts not subject to federal income tax;
however holders of GTC issues are subject to federal, state, and local taxes
where applicable.
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33
AID
The U.S. Agency for International Development administers a Housing Guar-
anty Program, authorized by the Foreign Assistance Act of 1961, that promotes
basic shelter for low-income families in developing countries.
The program allows private lenders to securitize and sell the housing loans
they make in developing countries into the secondary market. Housing
Guaranty loans are secured by the full faith and credit of the U.S. government,
making the securities attractive to secondary buyers and increasing liquidity.
AID charges an initial fee of 1% of the principal balance plus an annual
guarantee fee of 0.5% of the remaining balance for the life of the loan. The
income from these fees pays operating expenses at AID and provides a reserve
against adverse claims on the loan guarantee.
Because AID does not prescribe a standard formula for Housing Guaranty
Program loans, its guaranteed notes in the secondary market have a variety of
structures. Most issues have sinking fund provisions starting after a given
period, and some have premium call features.
Creation Purpose Use of Funds Issue Types Guarantee
1961 ForeignAssistance Act
Promote housingin developing
countries
Guarantee loansfor housing
Debentureswith maturitiesof 2 to 30 years
Full faithand creditof the U.S.
Government
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Currently, about $1 billion in AID securities are outstanding. The maximum
loan size under the AID Housing Guaranty Program without a special exemp-
tion from Congress is $25 million. Government Loan Trust (GLT) bonds issued
in March 1991,in grantor trusts backed by the government, guaranteed loans
to Israel. The GLT issuances divided the underlying loan collateral into three
parts: $85 million of 4-year securities, $224 million of 12-year securities, and a
series of zero-coupon bonds with maturities between 15 and 30 years.
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35
FAC
The Financial Assistance Corporation was created by the Agricultural Credit
Act of 1987 to assist members of the Farm Credit System experiencing financial
difficulty. FACs authority to purchase up to $4 billion of preferred stock ofinstitutions requiring assistance expired in September 1992. FAC activities are
directed by a board consisting of the secretaries of Treasury and agriculture
and a director appointed by the president.
Funds for capital infusion came from the sale of 15-year bonds explicitly
guaranteed by the Treasury for the timely payment of principal and interest.
The first bonds were issued in July 1988. The bonds were sold through a special
limited selling group and on a competitive bidding basis. As of September 30,
2000, FAC had $775 million of outstanding debt.
Creation Purpose Use of Funds Issue Types Guarantee
1987 AgriculturalCredit Act
Provide capitalto Farm
Credit SystemInstitutions
Capital infusionfor Farm Credit
institutionsexperiencing
financialdifficulty
15-year bonds Federalguarantee of
timely paymentof principal and
interest
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37
GSA
The General Services Administration was established in 1949 by the Fed-
eral Property and Administrative Services Act to manage the property and
records of the federal government. It oversees building construction andoperations, procures and distributes supplies, disposes of surplus govern-
ment property, and creates, preserves, and disposes of records. The GSA
has issued Public Building Trust Participation Certificates to finance
the construction of federal buildings. Since its last issue, Series J in 1976,
GSA has financed projects by issuing securities directly to the Federal
Financing Bank.
In October 1972, the attorney general of the U.S. ruled that GSA securities
constitutes an absolute and unconditional general obligation of the Unites
States, guaranteed by the full faith and credit of the government. The trustee
of the participation certificates also holds title to construction improvements
and leasehold interest in project sites as security for the governments
obligation to pay principal and interest.
Creation Purpose Use of Funds Issue Types Guarantee
1949 FederalProperty andAdministrativeServices Act
Managegovernmentproperty and
records
Financeconstruction of
federal buildings
30-yearsecurities
Full faith andcredit of the U.S.
Government
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In 1972, the GSA brought ten issues to market as 30-year securities with call
provisions and sinking fund schedules. As of the end of fiscal year 1999, GSA
had $2.6 billion in debt outstanding.
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39
SBA
The Small Business Administration was created in 1953 to facilitate financing
in the small business sector. By bringing in capital from other regions, the small
business community is allowed to flourish regardless of the financial situationof a particular area. The SBA-guaranteed portion of the loan is packaged for
sale in the secondary market, providing liquidity for subsequent loans. In 1984,
the Small Business Secondary Market Improvement Act established a single
fiscal and transfer agent and approved the pooling of SBA loans. These steps
made SBA loans available in large pools for institutional investors.
Payment of principal and interest on SBA loans is guaranteed by the full faith
and credit of the U.S. government through the SBA. This guarantee covers
75%-80% of the loan; the remaining amount must be retained by the originator.
Total debt outstanding as of the end of October 2000 was $48.3 billion.
Creation Purpose Use of Funds Issue Types Guarantee
1953 Facilitatefinancing for
small business
Guarantee ofloans to facilitate
securitizationand sale into
the secondarymarket
Securities withmaturities of 2
to 25 years
U.S.Governmentguarantee
through SBA
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41
USPS
The U.S. Postal Service was created as an independent part of the executive
branch by the Postal Reorganization Act in August 1970 and succeeded the
operations of the Post Office Department in July 1971. The Postal Serviceprovides mail processing and delivery services to individuals and businesses
within the United States. The postmaster general is appointed by a board of
governors made up of nine appointees of the president with the consent of the
Senate. Revenues come from postal rates and feed, appropriations, reimburse-
ment by Congress, proceeds from borrowing, and interest from investments.
Debt issued by the Postal Service is not guaranteed by the U.S. government,
although borrowing is authorized from the Treasury. Such authority also
requires the Treasury, if necessary, to meet principal, premiums, and interest
payments on these obligations as they come due. A total of $443 million of
securities has been issued in two public issues of pro rata sinking fund deben-
tures backed by sale/leaseback of the postal headquarters in Washington, DC.
Creation Purpose Use of Funds Issue Types Guarantee
1970 PostalReorganization
Act
Operating U.S.postal services
Meet costsof providingeffective andregular postal
servicenationwide
Issues withmaturities of 20years or longer
None;obligations of
the U.S. PostalService
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This document is for information purposes only. No part of this document may be reproduced in any mannerwithout the written permission of Lehman Brothers Inc. Under no circumstances should it be used or consid-ered as an offer to sell or a solicitation of any offer to buy the securities or other instruments mentioned in it.We do not represent that this information is accurate or complete and it should not be relied upon as such.Opinions expressed herein are subject to change without notice. The products mentioned in this documentmay not be eligible for sale in some states or countries, nor suitable for all types of investors; their value andthe income they produce may fluctuate and/or be adversely affected by exchange rates, interest rates orother factors.
Lehman Brothers Inc. and/or its affiliated companies may make a market or deal as principal in the securi-ties mentioned in this document or in options or other derivative instruments based thereon. In addition,Lehman Brothers Inc., its affiliated companies, shareholders, directors, officers and/or employees, mayfrom time to time have long or short positions in such securities or in options, futures or other derivativeinstruments based thereon. One or more directors, officers and/or employees of Lehman Brothers Inc. or its
affiliated companies may be a director of the issuer of the securities mentioned in this document. LehmanBrothers Inc. or its predecessors and/or its affiliated companies may have managed or co-managed a publicoffering of or acted as initial purchaser or placement agent for a private placement of any of the securities ofany issuer mentioned in this document within the last three years, or may, from time to time perform invest-ment banking or other services for, or solicit investment banking or other business from any company men-tioned in this document. This document has also been prepared on behalf of Lehman Brothers International(Europe), which is regulated by the SFA. 2001 Lehman Brothers Inc. All rights reserved. Member SIPC.
APPENDIX
More information is available at the following web sites:
www.fanniemae.com
www.freddiemac.com
www.fhlb-of.com
www.tva.gov
www.farmcredit-ffcb.com
www.salliemae.com
www.pefco.com
www.usaid.govwww.gsa.gov
www.nara.gov
www.sba.gov
www.usps.com
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