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Secondary Market Discounted Agencies: the Hidden Opportunity

Government agency securities include Fannie Mae, Freddie Mac, Federal Home Loan Bank, Farmer Mac, GNMA insured bonds and pass-through. (There are, of course, several other issuing agencies as well). Agency bonds are usually priced to maturity, but have a call feature. Agency “bullets” offer more call protection at a lower yield. SBA securities, as we have said, often have a higher yield than these agencies. The opportunity for a higher yield lies in DISCOUNTED agencies. If a bank or other taxable investor buys an agency bond at a discount, they have a taxable gain when the bond pays off at par or is sold at a price above the discount. If a credit union buys an agency at a discount and the bond is redeemed at par, there’s no tax consequence. Hence, discounted agencies represent a hidden value for nonprofits like credit unions because the gain is not taxed.