hw3_answers_Solutions - ANSWERS TO HOMEWORK QUESTIONS - HW...

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ANSWERS TO HOMEWORK QUESTIONS - HW #3 Answers for Chapter 6 - Question 8 8. Answer the below questions for a treasury auction. (a) In a Treasury auction what is meant by a noncompetitive bidder? A noncompetitive bidder is a bidder is who is willing to purchase the auctioned security at the yield that is determined by the auction process. More details are supplied below. The auction for Treasury securities is said to be conducted on a competitive bid basis. However, there are actually two types of bids that may be submitted by a bidder: noncompetitive bid and competitive bid. A noncompetitive bid is submitted by an entity that is willing to purchase the auctioned security at the yield that is determined by the auction process. When a noncompetitive bid is submitted, the bidder only specifies the quantity sought. The quantity in a noncompetitive bid may not exceed $1 million for Treasury bills and $5 million for Treasury coupon securities. A competitive bid specifies both the quantity sought and the yield at which the bidder is willing to purchase the auctioned security. (b) In a Treasury auction what is meant by the high yield? In a Treasury auction, the results are determined by first deducting the total noncompetitive tenders and nonpublic purchases (such as purchases by the Federal Reserve) from the total securities being auctioned. The remainder is the amount to be awarded to the competitive bidders. The competitive bids are then arranged from the lowest yield bid to the highest yield bid submitted. (This is equivalent to arranging the bids from the highest price to the lowest price that bidders are willing to pay.) Starting from the lowest yield bid (or highest price bid), all competitive bids are accepted until the amount to be distributed to the competitive bidders is completely allocated. The highest yield accepted by the Treasury is referred to as the high yield (or stop-out yield). Bidders whose bid is higher than the stop-out yield are not distributed any of the new issue (i.e., they are unsuccessful bidders). Bidders whose bid was the stop-out yield (i.e., the highest yield accepted by the Treasury) are awarded a proportionate amount for which they bid. For example, suppose that $4 billion was tendered for at the stop-out yield but only $3 billion remains to be allocated after allocating to all bidders who bid lower than the stop-out yield. Then each bidder who bid the stop-out yield will receive $3 billion / $4 billion = 0.75 = 75% of the amount for which they tendered. So, if an entity tendered for $5 million, then that entity would be awarded only 0.75($5 million) = $3.75 million. (c) In a Treasury auction what is meant by the bid-to-cover ratio? The bid-to-cover ratio is the total amount bid for by the public to the amount awarded to the public. More
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hw3_answers_Solutions - ANSWERS TO HOMEWORK QUESTIONS - HW...

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