WHAT ARE STRIPS?

STRIPS (separate trading of registered interest and principal of securities) are debt securities that are created through the process of coupon stripping.  They are essentially traditional Treasury bonds, except that the bond's principal (its corpus) has been separated—stripped—from its interest (its coupon).  Investors may then choose to purchase securities based on either the principal or interest of the bond. STRIPS take the form of zero coupon securities.  That is, they make no periodic interest payments, as most bonds do.  Instead, you buy them at a deep discount from their face value, which is the amount you receive when they mature.  This means that investors know exactly how much they will earn from their STRIPS investments. This, along with the high security of the bonds that back them, makes STRIPS popular with some investors.

Before 1986, a number of brokerage firms created their own zero coupon securities by stripping the coupons from Treasury bills and bonds they purchased and held in escrow.  They went by a number of feline acronyms: CATS, TIGRs, LIONs, etc.  Then the Treasury introduced the STRIPS system, in which brokerages create zero coupons based on book-entry receipts for Treasury instruments. While STRIPS are based on underlying Treasury instruments, they are sold by brokerage firms.

How does the STRIPS process actually work?  We will answer that question next.