Definition: Stripped bonds

Category: National accounts

In ESA 95, there is no explicit reference to stripping, i.e.  transforming a "normal" bond into a set of zero-coupon bonds representing both future payments of interest and repayment of principal.  This operation is neutral for the issuer in terms of streams of effective payments.  It is generally used for improving a financial market by enlarging the number of negotiable instruments.  Each strip can be traded separately on secondary markets.  Stripping concerns mainly bonds issued by Central Government.  Some other features must be stressed.  Stripping is operated on a voluntary basis by investors.  Thus, the conversion may take place for only a minor part of the total outstanding amount of a bond.  In most cases, stripping is a permanent option that can be exercised at any time but strips are fungible for the same redemption value and maturity date.  However it would be completely unrealistic from a practical point of view to take in account the rate prevailing at each issuance, as in the case of tranches of fungible bonds.  Stripping may normally be reversed, by asking to convert back into the original bond from a complete set of strips.  It is not at all infrequent.  As mentioned above, the sum of the strips values are actuarially equal to the total streams of flows, including principal redemption and regular payments of interest.  At the time of stripping, the total issue price of strips is equal to the present market value of principal under the original form.  For the issuer, it would not be consistent to record at nominal value both strips for principal and for interest payments.  There would be an artificial increase in the debt outstanding amount.  Where the debt is recorded (in issuers' books and for the excessive deficit procedure) at nominal (face) value, there is no change in recording the primary debt.