[LETTERHEAD OF THE BOND MARKET ASSOCIATION]

Via Electronic Mail and
Federal Express

February 6, 1998

Mr. Kerry Lanham, Acting Director
Department of the Treasury
Bureau of the Public Debt
Government Securities Regulation Staff
999 E Street N.W., Room 515
Washington, D.C. 20239-0001

Re:  Proposed Amendment (Fungible Interest Components of Inflation
-Indexed Securities)

Dear Mr. Lanham:

The Bond Market Association (the "Association")/1/ appreciates the 
opportunity to comment on the proposed rule amendments/2/ issued by 
the Department of the Treasury ("Treasury") relating to fungible 
interest components of inflation-indexed securities under the 
Uniform Offering Circular for the Sale and Issue of Marketable Book-
Entry Treasury Bills, Notes and Bonds/3/ (the "Uniform Offering 
Circular").  As you are aware, the Association has submitted comment 
letters/4/ in connection with Treasury's previous proposals regarding 
inflation-indexed securities and continues to have an active interest 
in the refinement of Treasury's rules with respect to this new class 
of securities.

/1/  The Bond Market Association (formerly known as "PSA The Bond 
Market Trade Association " or "PSA") is the bond market trade 
association, representing securities firms and banks that underwrite, 
trade and sell debt securities, both domestically and internationally.  
Its members include all of the primary dealers recognized by the 
Federal Reserve Bank of New York, as well as other government 
securities dealers.  More information about the Association can be 
found at its Internet website http://www.bondmarkets.com./2/  62 FR 
64528 (December 8, 1997).

/3/  31 CFR Part 356.

/4/  Letters dated July 12, 1996 and November 6, 1996 to Kenneth 
Papaj, Director, Government Securities Regulation Staff, Bureau of 
the Public Debt, from Edwin F. Payne, Chairman, PSA Government and 
Federal Agency Division.

In sum, the Association supports Treasury's efforts to make the 
interest components of inflation-indexed securities fungible./5/  
Association members generally believe that the fungibility of interest 
components is an important step in making the underlying inflation-
indexed securities market more liquid.  Association members appreciate 
Treasury's foresight and commitment to establishing the mechanism 
necessary for making interest components of inflation-indexed 
securities fungible, particularly in advance of any noteworthy 
increase in inflation.  Notwithstanding the foregoing, most market 
participants continue to be very concerned with the significant 
modifications needed for their operational systems to accommodate 
the trading and maintenance of the adjusted value of stripped 
interest components to the penny./6/

/5/  Association members recognize that although inflation-indexed 
securities are currently eligible for Treasury's Separate Trading 
of Registered Interest and Principal Securities ("STRIPS") program, 
the stripped components are not fungible.  It is our understanding 
that this is true even if the interest components have the same 
maturity date because the inflation adjustment to the principal 
component is based on the CPI reference number for the issue date 
of the security and securities with the same maturity date may have 
different issue dates.

/6/  In addition, although the Association generally supports the 
proposed initiative in its current form, some members are also 
concerned about the ability of investors to comprehend the proposed 
STRIPS methodology given its complexity.  In light of this concern, 
the Association encourages Treasury to carefully evaluate the benefits 
of fungibility, using the proposed methodology, against the potential 
cost to market participants arising from its complexity and the 
system related demands (independent of the "pennies" issue 
identified above).  Unfortunately, the Association is not in a 
position at this time to comment on what effect these costs will 
have on the market for inflation-indexed STRIPS. 
 
The Association's comments are divided into two parts.  Part I 
elaborates upon the significant operational system changes most 
market participants expect will be needed in order to maintain 
and trade the adjusted value of the interest components of inflation-
indexed securities to the penny.  As one solution to this issue, 
Association members recommend that Treasury consider truncating 
the pennies from the adjusted values for stripped interest components.

Part II describes Association members' view supporting the 
establishment of a conversion factor if the Consumer Price Index 
("CPI")/7/ is rebased and agree that the availability of such 
conversion factor will increase fungibility.  Association members 
believe, though, that better liquidity can be achieved if conversions 
are done on a voluntary basis, and if there is a conversion factor 
available for converting securities issued under the old base 
reference period to the new base reference period and vice versa.

/7/  The index for measuring the inflation rate for the securities 
will be the non-seasonally adjusted U.S. City Average All Items 
Consumer Price Index for All Urban Consumers.

I.	Operational and Other Concerns
Under the proposal, the adjusted value of the interest components 
stripped from inflation-indexed securities would have to be calculated,
transferred and maintained to the penny (e.g. $10, 802.47).  Most 
Association members currently do not have the operational capability 
to maintain or trade par values or adjusted values of a security in 
pennies./8/  As a result, these Association members consistently agree 
that, if the proposal is adopted in its current form, significant 
changes would need to be made to their internal trading, trade 
processing, settlement and accounting systems.  Association members 
believe, realistically, that it will require approximately six to 
nine months to both make and test the appropriate system changes 
before they can begin trading the new stripped securities.  In 
addition, the same members have expressed concerns about whether 
adequate internal resources can be dedicated to the project since 
currently many are making operational system adjustments to prepare 
for the Year 2000, the European Monetary Unit and the GCF Repo product 
of the Government Securities Clearing Corporation ("GSCC").

/8/  Based on an informal survey conducted by the Association, an 
extremely limited number of market participants seem to have the 
ability, or with minimal effort will have the ability, to trade 
securities maintained to the penny.

The Association has come to understand that other industry 
participants would need to make significant modifications to their 
computer systems to enable them to handle securities denominated 
to the penny.  In order to make these securities eligible for trade 
comparison and netting services, registered clearing corporations, 
such as GSCC, would have to reconfigure multiple components of their 
systems.  GSCC estimates that it would require four to six months 
to develop, test and implement modifications to its systems once final 
specifications regarding the introduction of fungible interest 
components of inflation-indexed securities are established by 
Treasury.  In addition, one of the two major clearing banks that 
needs to acquire the ability to clear a security carried to the 
penny has indicated that significant program changes and a quality 
assurance effort would be required. GSCC and this clearing bank are 
concerned whether they will have adequate resources to give a high 
priority to these modifications in light of the other important 
industry initiatives described earlier in this letter.

Association members suggest that the significant cost associated with 
modifying operational systems to accommodate maintaining and trading 
the adjusted value to the penny could be avoided by incorporating one 
modification in the present proposal-truncating the pennies from 
the adjusted value.  Treasury's proposal provided the example of an 
inflation-indexed security submitted for stripping with a 10-year 
maturity, a par amount of $1 million, a coupon rate of 3.5% and an 
issue-date reference CPI of 162.00000.  The adjusted value for each 
interest component was calculated as  $1 million x (0.035/2) x 
(100/162), or $10,802.47.  Using the truncation methodology we 
suggest, the adjusted value of each stripped interest component 
would equal $10,802.47, but a par value equaling  $10,802 would 
actually be issued.  In other words, the dealer would forego 
receiving  $0.47 per interest component or a maximum aggregate 
of $9.40 (20 interest components x $0.47) per $1 million stripped.  
All such penny truncations would accrue to the benefit of 
Treasury, and dealers would treat the forgone value as a variable 
cost associated with participating in the stripping business.  
Generally, for a 10-year issue, the adjusted value of pennies 
truncated would be expected to average $0.50 per maturity date per 
$1 million of inflation-indexed securities stripped or a total of 
$10 for all 20 interest components, with a market value significantly 
less than $10 per $1 million.  The truncation would discourage the 
stripping of trivial amounts.  In the example above, 1,000 
transactions of $1,000 would create costs of $0.80 x 20 x 1,000 or 
$16,000 per $1 million compared to $9.40 ($0.47 x 20) per $1 million 
for one transaction.  In addition, the associated transfer fee imposed 
by the Federal Reserve Bank of New York would be higher for 1,000 
transactions.

The Association believes as part of this suggestion that, during 
the reconstitution process, it would be necessary for Treasury to 
accept interest components in the same truncated denominations that 
were previously issued to market participants during the stripping 
process.  For example, the $10,802 par value in the case above would 
be an acceptable STRIPS component -- even though, the adjusted value 
credited will be equivalent to $10,802.47 in the reconstituted note, 
and the interest payment on the securities would be calculated as 
stated in Treasury's proposal and paid to the penny.  Should Treasury 
require pennies for reconstituting the securities, the initial 
investor to strip the issue would find himself/herself unable to 
reconstitute them if no other inflation-indexed securities were 
stripped with the same interest payment dates.  In fact, it would 
be impossible to extinguish all outstanding STRIPS unless the 
truncated adjusted value of the STRIPS received is acceptable for 
reconstituting.  Stripping and reconstituting in like amounts, 
would appear to be revenue neutral.  The truncated pennies Treasury 
kept during stripping would be returned during the reconstitution 
process.

The Association believes that truncating pennies from the adjusted 
value furthers Treasury's goal of making the securities attractive 
to a broader investor base and developing a liquid market.  Moreover, 
stripped interest components would be eligible for netting by clearing 
corporations and clearance by both major clearing banks.  Therefore 
Association members suggest Treasury consider making this modification.

Association members recognize that theoretically a dealer could profit 
from stripping a large par amount in one transaction and subsequently 
reconstituting that same par amount using multiple transactions.  
Using the same example above, if a dealer strips $1 million, thereby 
walking away from $9.40 of adjusted value of interest components, and 
later decides to reconstitute 1,000 $1,000 lots so as to receive 
$10.80 for every $10 submitted, the dealer will have an adjusted value 
benefit of $15,990.60 ($16,000-$9.40).  This benefit, however, is 
only theoretical, because it does not factor the transaction costs 
associated with reconstitution.  The Federal Reserve Bank of New 
York's existing transfer fee of $2.25 per CUSIP number submitted 
for reconstituting a security, whereby the principal and each interest 
component is counted, makes it less costly to submit larger amounts 
for reconstituting (in the example, 21 CUSIPS x $2.25 or $47.25 for 
one transaction versus $47,250 for 1,000 transactions).  If Treasury 
decides that the transfer fees fail to offer enough protection from 
potential abuse, Treasury could consider requiring a $1 million 
minimum par amount of notes and bonds for stripping and reconstituting.

Market participants agree with Treasury's assessment that the 
differences in payment amount between a stripped interest component 
and an interest payment of a fully-constituted security are very small 
and revenue neutral.  Therefore, market participants support 
Treasury's proposal not to change its current rounding conventions 
to eliminate these differences.

II.	Rebasing the CPI
Association members consistently believe that if the base reference 
period for the CPI is changed from 1982-1984 ("the old period") to 
1993-1995 ("the new period"), the benefits of increased fungibility 
will justify the cost of creating a conversion factor between 
securities originally issued with different reference CPI periods, 
the cost of making any necessary system changes and the possibility 
of creating additional small payment discrepancies./9/ Association 
members recommend, though, that the conversion be done on a voluntary 
basis because the conversion undoubtedly will create pennies.  
Since, as described above, most dealers' systems would be unable to 
accommodate pennies, the pennies would have to be truncated in the 
same fashion as described in Part I when inflation-indexed securities 
are stripped.  However, unlike a fully constituted security being 
submitted for stripping, most outstanding stripped interest 
components will be held by investors rather than dealers.  Therefore, 
any truncating would be at the cost of an investor (assuming 
dealers would not be willing to absorb this cost for the benefit 
of an investor).  By making conversion voluntary, investors will 
be permitted to decide for themselves whether the benefits outweigh 
the associated costs of conversion.  Association members also 
recommend that an additional conversion factor be created that will 
allow interest components of inflation-indexed securities based on 
the new period to be converted to the old period.  Association 
members believe that this additional convertibility and the voluntary 
conversion feature will further increase the marketability of the 
stripped interest components.

/9/  As the Association mentioned in its comment letter to Treasury 
dated July 12, 1996, the likelihood that redefinition of the CPI 
may occur during the life of a 10-year or 30-year inflation-indexed 
note or bond is a real and serious concern to potential investors.  
The Association agrees with Treasury's observation that interest 
components stripped from inflation-indexed securities issued under 
different indices with fundamentally different methodologies would 
not be fungible.

The Association appreciates the opportunity to comment on the proposed 
amendment and looks forward to continuing the exchange of ideas 
between Treasury and market participants.  Any questions may be 
directed to the undersigned at 212-440-9431 or Paul Saltzman, 
Senior Vice President and General Counsel at 212-440-9459.

Sincerely yours,
/s/ Paula H. Simpkins
Paula H. Simpkins
Vice President and Assistant General Counsel

cc:	Members of the IIS STRIPS Task Force
	Members of the Primary Dealers Executive Committee
	Members of the Primary Dealers Committee
	Michael D. McCarthy, Jr., Goldman, Sachs & Co.
	Mark B.Werner, J.P. Morgan Securities Inc.
	Susan M. Estes, Morgan Stanley & Co., Inc.
	Selected Staff, The Bond Market Association