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II.
Investments Results & Prospective Strategies -
Third Quarter 2005
BIF
- During the first nine months of 2005, the book value of the BIF
investment portfolio increased by $826 million or 2.49 percent—from
$33.231 billion on December 31, 2004, to $34.057 billion on September 30,
2005.
- The
BIF investment portfolio's return for the first nine months of 2005
was 1.46 percent, approximately 51 basis points higher than the
return of the benchmark, the Merrill Lynch 1 – 10 Year U.S. Treasury
Index, which earned 0.95 percent during the first nine months of 2005.
The strong performance relative to the benchmark can be attributed to
two factors. Approximately 19 percent of the BIF investment portfolio
consists of Treasury Inflation-Protected Securities (TIPS), and TIPS outperformed
conventional Treasury securities during this period. The second factor
is that during this period, about 4 percent of the portfolio was invested
in overnight investments. While overnight investments do not yield as
much as longer-term securities, in a rising rate environment, the longer-term
securities experience price declines, so for this period on a total return
basis, overnight investments outperformed the longer-maturity conventional
Treasury securities included in the Merrill Lynch 1 – 10 Year
U.S. Treasury Index. In fact, for this period, overnight investments
also outperformed
TIPS.
- During
the third quarter of 2005, staff purchased new securities with
a total par value of $1.680 billion, a weighted average maturity
(WAM) of 3.34 years, a weighted average modified duration of 3.05
years, and a weighted average yield to maturity (YTM) of 4.10
percent. At the
end of the quarter, the effective duration of the BIF portfolio
was 2.43 years.
SAIF
- During the first nine months
of 2005, the book value of the SAIF investment portfolio increased
by $503 million or 4.20 percent—from
$11.962 billion on December 31, 2004, to $12.465 billion on September
30, 2005.
- The SAIF investment portfolio's return for the first nine
months of 2005 was 1.36 percent, approximately 41 basis points higher
than the return of the benchmark, the Merrill Lynch 1 – 10 Year
U.S. Treasury Index, which earned 0.95 percent during same period.
As with BIF, the SAIF investment portfolio’s strong performance
relative to the benchmark can be attributed to the same two factors,
the portfolio’s TIPS and its relatively high amounts of overnight
investments, both of which on a total return basis outperformed the
longer- maturity conventional Treasury securities included in the Merrill
Lynch 1 – 10 Year U.S. Treasury Index.
- During the third
quarter of 2005, staff purchased new securities for the SAIF portfolio
with a total par value
of $480.0 million, a WAM of 3.48 years, a weighted
average modified duration of 3.17 years,
and a weighted average YTM of 4.11 percent.
At the end of the
quarter, the effective duration of the SAIF portfolio was
2.54 years.
The Treasury Market
- Conventional Treasury yields increased dramatically across all
maturity sectors during the third quarter of 2005. Three- and six-month
Treasury bill yields were up 42 and 59 basis points, respectively, largely
reflecting increases in the federal funds target rate. The two-year note
yield, which is also sensitive to actual as well as anticipated changes
in the federal funds rate, was up 54 basis points. Intermediate- to longer-maturity
Treasury security yields also increased over the course of the third quarter,
although yield movements were fairly volatile, reflecting a number of technical
and fundamental factors. The five-year Treasury note’s yield increased
by 49 basis points, while the ten-year Treasury’s yield was up 41
basis points. The Treasury yield curve continued to flatten during the third
quarter, with the spread between two- and ten-year securities at just 15
basis points, lower than the 28 basis point spread at the end of second
quarter of 2005, and substantially below its five-year average of 157 basis
points.
- Interestingly,
during the third quarter, real yields on shorter-maturity TIPS declined
while real yields on intermediate-maturity TIPS increased
only modestly, supporting the contention that much of the nominal
yield increases on shorter-maturity conventional Treasury securities
reflects
expectations for higher inflation over the short-run, while longer-term
inflation expectations remain relatively well contained. For instance,
the real yield on the TIPS with just over two years to maturity declined
by 27 basis points, while the nine-year TIPS real yield increased
by 11 basis points.
Prospective Strategies
- The current investment strategies provide the flexibility to purchase
a wide range of different Treasury securities with varying maturities, depending
on Treasury market conditions and developments during the fourth quarter of
2005. During the fourth quarter, the BIF portfolio primary reserve target
floor remains at $8 billion; for the SAIF portfolio, the respective amount
is $2.5 billion.
- Similar
to the third quarter investment strategies, if higher yields
become available—either as a result of an upward shift in
the yield curve or because of significant price volatility—the
fourth quarter strategies provide the flexibility to purchase comparatively
higher-yielding, longer-maturity Treasury securities.
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