Appendix 3
Page 1 of 1

MAJOR CONTRIBUTORS TO THIS REPORT

PROGRAM AUDITS DIRECTORATE

Maria V. Carmona, Acting Director
C. Samuel McGeorge, Audit Manager
LaVeta C. Charity, Auditor-in-Charge
Julie A. Poole, Auditor

Catherine A. Pearl, Auditor

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to a single bidder in an auction of Treasury securities were limited to one
‘quarter of the securities offered. The limitation was revised in
September 1981, whereby no single bidder may be awarded more than
35 percent of the amount of a Treasury security offered to the public.
For example, in a note auction with a $10 billion public offering, a
bidder with a reported net long position of $1 billion would receive a
maximum auction award of $2.5 billion. Net long refers to the amount
of the position in a specific security held by a bidder prior to the auction.

The application of the 35 percent limit to any bidder includes
consideration of that bidder's net long position in the security being
auctioned in three markets. The three markets are the following:
¢ Futures market - traded on exchanges and used to lock in
purchase and sale prices in advance of delivery.

e Forward market - over-the-counter market used by dealers to
lock in purchase and sale prices in advance of delivery.

¢ When-issued market - over-the-counter market used by
dealers to lock in purchase and sale yields for securities
announced but not issued.

Positions in the futures market are included in the bidders net long
position only if the futures require delivery of the specific security being
auctioned. In the case of a security that is being reopened, the net long
position also includes holdings of the outstanding security. Further, the
net long position includes the Treasury's Separate Trading of Registered
Interest and Principal of Securities (STRIPS) principal components,
including when-issued trading positions of such principal components.
STRIPS is the Treasury program under which eligible securities are
authorized to be separated into principal and interest components, and
transferred separately.

In 1993, BPD introduced an enhanced version of the automated bidding
process that allows commercial bidders to enter security bids directly
into personal computers and electronically transmit bids to the Federal
Reserve. FedLine is a full-service software package that provides
electronic access to Federal Reserve transaction and information
services. BPD claims several benefits from electronic bidding, including
capturing information at the source, instant transmissions of bid
information, and early identification of errors.

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Conclusion

Controls Over the Electronic Bidding Process Were Adequate ,

FedLine's built-in security features ensure that all tenders are fully’
encrypted, thereby protecting the electronic tender data being entered.
The security features also generate a printout of a complete audit trail of
all tenders submitted and accepted for auction. Using this printout, the
Office of Financing will review and verify the accuracy of the auction
results, and issue a press release announcing the range of accepted
competitive bids, the proration at the stop-out yield or discount rate, and
other pertinent auction information. The press release is then
disseminated to the financial news services and automatically sent to
each auction participant's Fedline computer terminal. In our opinion,

‘based on our observation of auction activities at three locations, adequate

controls exist over the electronic bidding process.

Adequate Auction Contingency Plans Were in Place

Based on our review of the TAAPS Federal Reserve Bank Contingency
Procedures Plan and the recent results from implementing the plan, we
determined that BPD has adequate assurance that the auction process will
continue to operate in the event of a disaster at an FRB site. The plan is
a strategy by which personnel from one FRB Review Site assists another
if one or more banks are prevented from processing the auction in
TAAPS. The plan also covers a disaster scenario wherein the BPD
Office of Financing would continue to operate at an alternate location in
Washington, D.C.

Evidence of the plan’s adequacy was demonstrated in September 1998,
at which time the TAAPS contingency plan was implemented when a
fire broke out on the auction floor prior to the auction. According to the
Office of Financing staff, everything needed to conduct an auction was
in place at the contingency location, and the auction was carried out
effectively. Additionally, the equipment at the contingency location is
checked quarterly to ensure that it is working properly.

We concluded that BPD took appropriate actions to implement and
document all previous recommendations to strengthen the auction
process. In addition, we determined that the automated bidding process
is adequate. The process operates in a manner that ensures tenders can
be entered easily, and tenders and customer lists can be stored for
transmission on auction day. Finally, because the FedLine Automated
Auction system provides a direct link to the FRBs and the system’s

OIG~00-019

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checking customer bids after every auction. Details on these actions are
presented below.

Independent Verification of Bidder's Net Long Position Was Enhanced

Action was taken to meet the intent of our recommendation to develop a
mechanism to ensure a bidder’s net long position can be adequately
verified. Although our November 1996 report contained the
recommendation that a rule be considered that would require auction
participants to maintain documentation supporting their net long
position, another action was taken. Subsequent to the completion of our
work for the prior audit, Treasury issued final large position rules on

‘September 12, 1996, These rules and the existing market controls

provide enough information and mechanisms for market regulators,
i.e., the combination of record keeping and reporting rules is more
comprehensive than net long reporting rules which would focus only on
concentrations at auction.

Additionally, the BPD Office of Financing implemented a net long
position telephone verification procedure. Its purpose is to discover
possible reporting errors or flawed procedures used by competitive
auction bidders in the determination of reporting status with Treasury's
auction rules and the calculation of a reported position. In an auction,
the net long positions of certain bidders or customers are selected for
verification. The net long positions which may be verified include:

(1) a submitter or customer with a large reported net long position;

(2) bids less than, but close to, the net long reporting requirement
amount for that auction with no net long position reported; or

(3) a reported net long position amount that looks different from the
norm or is in any way peculiar. Position verification may also occur
when a large bidder, in combination with its major customers, has
acquired a large proportion of the public offering. In this situation, the
Office of Financing compares the results of the verification with what
the firm reported in the auction. A telephone verification report is
completed and filed for future reference.

We performed a walk-through of the verification procedure, and we
determined that BPD's independent verification of bidders’ net long
positions is effective to uncover flawed procedures or misunderstandings
of the net long position rules. In addition, the verification procedure
could potentially uncover auction violations related to the net long
position. During our walk-through, the BPD Office of Financing staff
contacted a firm to perform a verification of the firm’s net long position
during that day's auction. We compared the firm’s telephone

OIG~-00-919

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Objectives, Scope, and Methodology

The overall objective of our audit was to determine whether BPD had
taken adequate corrective actions to implement the recommendations in
the OIG report titled Improvements Needed in the Treasury Auction
Process, OIG-97-004, issued on November 8, 1996. We specifically
determined whether: (1) BPD implemented each recommendation
contained in the November 1996 audit report; (2) any recommendation
was not implemented and the reason; and (3) the implemented changes
were effective. We also reviewed BPD’s atitomated bidding process to
ascertain whether: (1) electronic submissions of tenders allow the
auction results to be released more efficiently; (2) appropriate controls

"are in place to protect the electronic tender data being entered,

transmitted, and stored; and (3) adequate contingency plans are in place.

Audit work was performed at the BPD Office of Financing in
Washington, D.C., and at the Federal Reserve Banks (FRB) in

New York and Chicago, from October through December 1998. We
reviewed the current electronic bidding process and assessed the internal
controls. We conducted interviews to obtain management information
on what needed improvement and we observed the auction process at all
three locations to assess performance and identify any potential
problems. We reviewed the Treasury Security Tender Submission Guide
and Uniform Offering Circular for adequacy, and examined transactions
to determine compliance with departmental and BPD policies for the
electronic bidding process.

This audit was conducted in accordance with the Government Auditing
Standards issued by the Comptroller General of the United States, and
included such tests as were deemed necessary.

Audit Results

The Treasury Auction Process Was Strengthened

In response to the November 1996 OIG recommendations, adequate
corrective actions were taken to strengthen the Treasury auction process.
BPD enhanced its procedures to identify potential errors in the reporting
status of a bidder’s net long position. Also, the BPD Office of
Financing initiated an ongoing liaison relationship with the FRBs and
bidders to educate the responsible individuals on the auction rules and
stay abreast of emerging issues and problems. Furthermore, the FRB
New York Markets Group improved the documented process for spot

OIG-00-019

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customer's bid and the rate at which the bid was submitted, assurance is
provided that the submitting dealer correctly entered the customer's
bidding instructions.

We reviewed implementation of the spot checking procedures after an
auction. We found that implementation was clearly documented and
readily available for examination. Also, FRB supervisors are directed
by the procedures to continuously review and approve their staffs’
assigned work, and BPD is directed to regularly review the FRB's
performance of spot checks. Based on the actions taken by the FRB and
BPD, we believe the current spot check program promotes reasonable
assurance that bidders will not exceed purchase limits on Treasury

* securities.

The Electronic Bidding Process Was Effective and Efficient

BPD implemented an effective automated bidding process of electronic
submission of tenders to serve its customers and release the auction
results more efficiently. FedLine's Automated Auction software
electronically routes the submitted tender to TAAPS for the purchase of
Treasury securities at original issue to the FRB. Submitters can transmit
tenders for their accounts, customers‘ accounts, and their current
TreasuryDirect’ customers. Bidders save time by bidding on Treasury
securities via computer, instead of taking a paper tender to an FRB
office. In addition, tenders are accepted until the auction closes, with
prompt confirmation available.

BPD also provided other electronic bidding capabilities. In April 1998,
the Office of Financing implemented a browser-based alternative to
FedLine. At the beginning of our review, 31 submitters were offered
the browser-based alternative, which offers enhanced submission,
receipt, processing, and data storage of tenders. Additionally, in
September 1998, the BPD Office of Securities and Accounting Services
implemented a system which allows existing TreasuryDirect investors,
with good Automated Clearing House information on file, to submit
tenders electronically via the Internet. Finally, in October 1998, the
Office of Securities and Accounting Services added an additional
capability which allows investors to purchase securities via the
telephone.

! TreasuryDirect is an automated system that provides an alternative to the commercial book-entry
system for investors who wish to hold bills, notes, and bonds directly with Treasury.

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BUREAU OF THE PUBLIC DEBT’S
AUCTION PROCESS

~ OIG-00-019 December 21, 1999

Office of Inspector General

United States Department of the Treasury



Appendix 1

Page 1 of 1
ABBREVIATIONS
BPD Bureau of the Public Debt
FRB Federal Reserve Bank
OIG Office of Inspector General
STRIPS Separate Trading of Registered Interést and Principal of
Securities
TAAPS , Treasury Automated Auction Processing System
Treasury Department of the Treasury
OIG-00-019 BUREAU OF THE PUBLIC DEBT’S . Page 9

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software provides multi-level security, it is our opinion that BPD’s
auction process can be relied upon to provide accurate and reliable
information. :

Management Response and OIG Comment

BPD concurred with our conclusions that the audit resulted in no
significant reportable issues. Furthermore, the Bureau feels it took
appropriate actions on the recommendations contained in OIG-97-004,
and implemented an effective automated bidding process.

, The OIG considers the Bureau’s response sufficient to close the audit.

OIG-00-019 BUREAU OF THE PUBLIC DEBT’S ~ Page 8
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verification report with information maintained in the Treasury
Automated Auction Processing System (TAAPS) on the 2-year note
being auctioned. Since the firm’s response confirmed the auction day
bids and position reporting, there was no need for further action.

Training and Liaison Needs Were Addressed

BPD implemented our recommended actions to ensure that bidders are
fully aware of the auction rules by initiating training and liaison
programs. These programs enable auction participants to comply more
fully with auction rules and possibly reduce the number of inquiries

during the auctions.

BPD initiated a series of on-site visits by the Office of Financing staff
with auction participants to observe and review, first hand, the processes
and internal compliance procedures used by the participants. During the
visits, auction participants describe their auction process through formal
presentations and/or informal discussion with members of the Office of
Financing staff. Auction participants also discuss competitive and
noncompetitive processes and the calculation of the firm's net long
position. :

Furthermore, during 1998, staff in the Office of Financing conducted
auction seminars, held training sessions, and participated in other
seminars. BPD also offered extensive hands-on FedLine terminal
training and reviews of a number of auction-related business topics.

In our opinion, BPD’s visits, along with continued work with dealers
through compliance and training programs, will help to ensure adherence
with Treasury's auction rules.

Spot Check Procedures Were Revised and Improved

Our recommendations were implemented to revise the procedures for
spot checking customer bids and ensuring the spot checks are performed.
Implementation of spot checks is important to deter bidders from
exceeding purchase limits on Treasury securities.

The FRB New York Treasury Auction Group improved procedures for
spot checking customer bids. Spot checks are performed immediately
after every auction to ensure dealers are not submitting unauthorized bids
on behalf of their customers in order to circumvent purchase limits on
Treasury securities. In addition, by verifying the par amount of a

OIG-00-019

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Overview

This report presents the results of our audit to determine whether the
Bureau of the Public Debt (BPD) took adequate corrective actions to
implement the recommendations in the Office of Inspector General
(OIG) report titled Improvements Needed in the Treasury Auction
Process, OJG-97-004, dated November 8, 1996. We also reviewed
BPD’s automated bidding process to ascertain whether: (1) the process
was efficient and secure, and (2) effective contingency plans were in
place. We conducted this audit from Octobér through December 1998,
as part of the OIG’s Office of Audit Annual Plan for Fiscal Year 1999,

" Our audit revealed that BPD took adequate corrective actions to address

the deficiencies cited in the November 1996 OIG report, and the
electronic auction process operated in a satisfactory manner. Therefore,
no recommendations for corrective action are necessary at this time.

Background

The BPD Office of Financing is the organizational entity within the
Department of the Treasury (Treasury) responsible for conducting
marketable securities auctions. The Office of Financing facilitates the
auction process by receiving bid data, determining awarded yield and
prices, and disseminating auction results. Also, the Office of Financing
ensures adherence to auction-related rules and regulations.

BPD accomplishes its mission of financing the operations of the Federal
Government by issuing three types of marketable securities (bills, notes,
and bonds) that are direct obligations of the United States Government.
These securities are sold to the public to pay off maturing debt and raise
the funds needed to operate the Federal Government. Treasury securities
are sold through competitive and non-competitive bidding at more than
160 auctions held throughout the year. Buyers of these securities
generally are large competitive dealers, as well as other dealers,
financial institutions, institutional investors, foreign investors, and retail
investors. During Fiscal Year 1998, over $2 trillion in Treasury
securities were issued.

Since 1962, Treasury has limited the maximum amount of securities
awarded to a single bidder in a Treasury offering. The primary reasons
for limitation are to ensure broad distribution of Treasury securities and
to make it less likely that ownership of Treasury securities will
concentrated in a few hands as a result of an auction. In 1962, awards

OIG~-00-019

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Appendix 4
Page 1 of 1

REPORT DISTRIBUTION

TREASURY DEPARTMENTAL OFFICES
Fiscal Assistant Secretary
Office of Strategic Planning

Office of Budget
Office of Accounting and Internal Control

BUREAU OF THE PUBLIC DEBT

Commissioner
Assistant Commissioner, Office of Financing

OFFICE OF MANAGEMENT AND BUDGET

Esther Rosenbaum, OIG Budget Examiner

OIG-00-019 BUREAU OF THE PUBLIC DEBT’S ~ Page 12
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TABLE OF CONTENTS

OVERVIEW ... sscanesces sseesssoneeeseesenscenstennessses ssanessesenessesenssescessaee _ 1

BACKGROUND .evreseccsccsoes esseee sssssctennsovereconeesesensecesensses cs 1
OBJECTIVES, SCOPE, AND METHODOLOGVY........

AUDIT RESULTS nrsnsnmnennenen sn nnennnnnennnnnnnnmene3

The Treasury Auction Process Was Strengthened.........s.ccscssecsscsssesssssessessecenessnserees 3
The Electronic Bidding Process Was Effective and Efficient ...ssssscssssssssssssssssses a)

Controls Over the Electronic Bidding Process Were Adequate .....sssscssssssnsescssesseee 7

Adequate Auction Contingency Plans Were in Place...
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MANAGEMENT RESPONSE AND OIG COMMENT ......-sssnssccosssesssssceneses 8

APPENDICES
1. Abbreviations.. ocesoveosesassnssesessecesnscutensnsseseceesoesesasasesosecsenesesesncecesestensvessesessesesone 9
2. Management Response ........00 10
3. Major Contributors to This Report. 11
4. Report Distribution.........sccccsssees 12
OIG-00-019 BUREAU OF THE PUBLIC DEBT’S Page i

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DEPARTMENT OF THE TREASURY
WASHINGTON, D.c. 20220

December 21, 1999

OFFICE OF
INSPECTOR GENERAL

MEMORANDUM FOR VAN ZECK, COMMISSIONER
BUREAU OF THE P' Ic

FROM: Dennis S. Schindel
Assistant Inspector

for oy.

SUBJECT: Bureau of the Public Debt's Auction Process

This memorandum transmits our final audit report titled Bureau of
the Public Debt's Auction Process. We performed a follow-up
review on the recommendations made in the Office of Inspector
General (OIG) audit report titled Improvements Needed in the
Treasury Auction Process, OIG-97-004, dated November 8, 1996.

We also evaluated the automated bidding process.

We concluded that the Bureau of the Public Debt took appropriate
actions on the recommendations contained in OIG-97-004 and
implemented an effective and efficient automated bidding process.
-No significant reportable issues came to our attention.
Therefore, we are making no recommendations at this time.

Our conclusions are summarized in the Overview section and
explained in further detail in the Audit Results section of the
‘report. Bureau of the Public Debt management concurred with our
conclusions. The management comments are summarized in the Audit
Results section of the report, and a complete text of the

comments appears as Appendix 2.

We appreciate the courtesies and cooperation provided to our
staff during the audit. If you wish to discuss this report, you
May contact me at (202) 927-5400, or a member of your staff may
contact Maria V. Carmona, Acting Director, Program Audits, at
(202) 283-1591.

Attachment


Appendix 2
Page 1 of 1

MANAGEMENT RESPONSE

DEPARTMENT OF THE TREASURY
BUREAU OF THE PUBLIC DEBT
WASHINGTON, DC 20239-0001

September 27, 1999

MEMORANDUM FOR DENNIS S. SCHINDEL -
ASSISTANT INSPECTOR GENERAL FOR AUDIT
OFFICE OF INSPECTOR GENERAL

(te
From: Van Zeck, Commissioner Dare Murelanrf

Bureau of the Public Debt

Subject: Response to Draft Report on the Bureau of the
Public Debt’s Auction Process

Thanks for the opportunity to respond to your Draft Report on the
Bureau of the Public Debt’s Auction Process. This audit was a
follow-up review on the recommendations made in the Office of
Inspector General (OIG) audit report titled Improvements Needed
in the Treasury Auction Process {OIG-91-004) dated November 8,
2996. Z concur with your findings that the audit resulted in no
significant reportable issues. Furthermore, the Bureau of Public
Debt (BPD) took appropriate actions on the recommendations
contained in OIG-37-004, and implemented an effective automated
bidding process. Also, the content of this report does not
warrant protection under the Freedom of Information Act.

I would like to thank you and your staff for conducting the audit
at the Office of Financing and the Federal Reserve Banks of New
York and Chicago. The OIG audit team was knowledgeable and
professional, which resulted in an efficient and less burdensome
audit. We look forward to working with you in the future.

wwwepublicdebttreas.gov

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