Why is a stripped Treasury security identified by whether it is created from the coupon or the principal?
What will be an ideal response?
On dealer quote sheets and vendor screens STRIPS are identified by whether the cash flow is created from the coupon (denoted ci), principal from a Treasury bond (denoted bp), or principal from a Treasury note (denoted np). Strips created from the coupon are called coupon strips and strips created from the principal are called principal strips.
The reason why a distinction is made between coupon strips and principal strips has to do with the tax treatment by non-U.S. entities where some foreign buyers have a preference for principal strips. This preference is due to the tax treatment of the interest in their home country. The tax laws of some countries treat the interest as a capital gain, which receives a preferential tax treatment (i.e., lower tax rate) compared with ordinary interest income if the stripped security was created from the principal.
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