Strip Bond
A zero-coupon security created by separating a bond's coupon payments and principal into individual tradable instruments.
What is Strip Bond?
A strip bond (or STRIPS—Separate Trading of Registered Interest and Principal of Securities) is a zero-coupon fixed-income instrument created by separating a coupon-bearing bond into its individual components: each periodic coupon payment and the final principal repayment are stripped out and sold as standalone zero-coupon securities maturing on the dates the cash flows were originally scheduled. The U.S. Treasury's STRIPS program allows primary dealers to create and reconstitute Treasury STRIPS. Because strip bonds pay no periodic interest, they are sold at a deep discount to face value and accrete to par at maturity. Their prices are highly sensitive to interest rate changes (high duration), making them useful for liability-matching and duration management.
Example
A 10-year $1,000 Treasury note with 2.5% semiannual coupons can be stripped into 20 coupon STRIPS (each worth one $12.50 coupon payment) plus one principal STRIP worth $1,000 at maturity. An institutional investor who needs to match a liability due in exactly 10 years buys the $1,000 principal STRIP at a discount of approximately $781—receiving exactly $1,000 in 10 years at a 2.5% yield to maturity with no reinvestment risk.
Source: U.S. Treasury — STRIPS