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As fixed-income securities, agency bonds represent a safe investment and are often compared to Treasury bonds (T-bonds) for their low risk and high liquidity. But unlike Treasury bonds, which are issued only by the U.S. Treasury, agency bonds come from government agencies and corporations granted a charter by the government.
Key Takeaways
- Agency bonds are securities issued by U.S. government agencies or Government-Sponsored Entities (GSEs).
- Agency bonds are considered low-risk, although not as safe as U.S. Treasurys.
- Agency bonds can be callable and paid off by the borrower before they mature.
Government Agency vs. GSE
Not all agency bonds are issued by government agencies. Some are issued by government-sponsored entities (GSEs), which are private corporations that hold government charters because their activities are important to public policy.
These corporations provide home, farm, and student loans, and help finance international trade. The market generally believes that the government would not allow charter-holding firms to fail, thus providing an implicit guarantee to GSE debt. Although agency bond traders recognize this distinction between true agencies and GSEs when buying or selling bonds, the yields for both types of debt tend to be identical.
Bond Example
In the table below, two hypothetical agency bonds are offered for sale by a bond dealer. Federal Farm Credit Bank (FFCB) is a GSE, thus carrying an implicit guarantee on its debt. Private Export Funding Corp. (PEFCO) bonds are backed by U.S. government securities, held as collateral, and the interest payments are considered an explicit obligation of the U.S. government.
Yet in the yield-to-maturity (YTM) line, implicit and explicit guarantees are valued similarly, resulting in nearly identical returns.
| — | Agency Bond 1 | Agency Bond 2 | Treasury Bond |
| Issuer | FFCB | PEFCO | U.S. Treasury |
| GSE or Agency | GSE | Agency | |
| Maturity | 2/20/2025 | 2/15/2025 | 2/28/2025 |
| Coupon | 5.08 | 3.375 | 4.75 |
| Ask Price* | 100.589 | 97.467 | 100.413 |
| Yield-to-Maturity (YTM)* | 4.760 | 4.753 | 4.53 |
Although they carry a government guarantee, implicit or explicit, agency bonds trade at a yield premium (spread) above comparable Treasury bonds. In the example above, the FFCB bond is offered at a 23 basis point spread (4.76% – 4.53% = 0.23%) over the Treasury bond, and the PEFCO bond at just over a 22 basis point spread.
Agency Bond Yield
Investors expect a higher yield in agency bonds over Treasuries because there is additional risk, stemming from the political risk that the government guarantee of agency debt could be modified or revoked. Additionally, Treasury bonds are considered highly liquid and used by central banks and other financial institutions. Agency bonds are not as liquid or as efficient to trade.
If a large fund or government wishes to purchase $1 billion of 10-year bonds, it could easily fill the order using Treasury bonds, perhaps even finding that amount in a single bond issue. If it chooses agency bonds, the order would have to be split into smaller blocks of various issues, meaning more time spent and a less efficient process.
$162.3 billion
The total issuance of all agency bonds in April 2025.
State Tax
Some states impose tax on top of federal tax for agency bonds. While coupon payments on debt from the most well-known agencies like Fannie Mae and Freddie Mac are taxable on both the federal and state level, other agencies are taxable only on the federal level.
Counterintuitively, the yields on fully taxable and state-tax-free agency bonds tend to be similar, if not equal. While one might assume agency bonds that are not taxed at the state level would be more expensive than those that are fully taxable, this is not always the case. See the hypothetical example below:
| — | Agency Bond 1 | Agency Bond 2 | Treasury Bond |
| Issuer | Fannie Mae | FHLB | U.S. Treasury |
| Fully Taxable or State Tax-Free | Fully Taxable | State Tax-Free | |
| Maturity | 12/15/2026 | 12/16/2026 | 11/15/2026 |
| Coupon | 4.875 | 4.75 | 4.625 |
| Ask Price* | 99.816 | 98.854 | 100.811 |
| Yield-to-Maturity (YTM)* | 4.898 | 4.898 | 4.52 |
Because the pre-tax yields on both fully taxable and state-tax-free agency bonds are generally nearly identical, you should consider the taxable status of a bond if you are holding it in an account subject to state income taxes.
Cash Flow and Taxes
The table below shows how cash flows are affected by federal and state taxes. In this example, the investor pays $100 (par value) for a two-year agency bond with a 6% annual coupon, then holds it to maturity. Assume the investor is in the 35% federal tax bracket, and their state income tax rate is 9.3%.
* Federal tax is lower due to the deduction of state taxes
If the bond purchased is state-tax-free, the internal rate of return (IRR) net of taxes will be 3.9%, but if the investor mistakenly buys a bond subject to state tax, the return falls by 36 basis points to 3.54%.
Choosing a Bond Structure
A large portion of agency debt is callable, which can be a good investment if yields are likely to rise. Since callable bonds contain an embedded call option (exercisable by the seller), they generally carry higher yields to compensate for the risk of the bond being called.
Some callable agency bonds are callable at any time, while others are monthly, quarterly, or even on only one specific date before maturity. Alternatively, some agency bonds are issued with a put provision exercisable by the bondholder, which can benefit the purchaser if yields rise.
Although embedded calls and puts are the most common provisions to identify when purchasing bonds, other structures and provisions exist. In a step-up structure, the coupon rises as the bond approaches maturity. Step-ups are often attached to callable bonds, making them more likely to be called as the coupon rises. The issuer is more likely to retire the debt when it has a larger coupon to pay.
Floating-rate bonds are also issued, on which the coupon resets periodically to a rate tied to the secured overnight financing rate (SOFR), Treasury bond yields, or some other specified benchmark. Other coupon variations are available, including monthly coupon payments, or interest-at-maturity bonds, akin to zero-coupon bonds. Also available are bonds carrying a death-put provision, where the estate of a deceased bondholder may redeem the bond at par.
Bond Issuers
Below is a table showing basic information about each issuer. The top three make up the vast majority of total agency debt outstanding and are the most common issuers investors will come across when purchasing bonds.
| Symbol | Full Name | GSE/Agency | Coupon IncomeState Taxable |
| FHLB | Federal Home Loan Banks | GSE | No |
| FHLMC | Federal Home Loan Mortgage Corp. (Freddie Mac) | GSE | Yes |
| FNMA | Federal National Mortgage Association (Fannie Mae) | GSE | Yes |
| FFCB | Federal Farm Credit Banks | GSE | No |
| REFCORP | Resolution Funding Corp. | GSE | No |
| TVA | Tennessee Valley Authority | GSE | No |
| FICO | Financing Corp. | GSE | No |
| PEFCO | Private Export Funding Corp. | Agency | Yes |
| GTC | Government Trust Certificates | GSE | Yes |
| AID | Agency for International Development | Agency | Yes |
| GSA | General Services Administration | Agency | No |
| SBA | Small Business Administration | Agency | Yes |
| USPS | U.S. Postal Service | GSE | No |
Explain Like I’m Five
Agency bonds are bonds that are issued by an agency of the U.S. government, as opposed to bonds issued directly to the Treasury. Some corporations can also issue agency bonds. The money from selling the bonds is used to finance mortgages and farm loans, among other uses.
Because the agencies are tied to the federal government, they are almost as safe as Treasury bonds, and have a slightly better yield. In addition, some agency bonds are not subject to state taxes. This makes them an attractive investment for people searching for low-risk assets.
Are Agency Bonds a Good Investment?
Agency bonds are considered low-risk because the full faith and credit of the federal government usually backs the issuing agencies. On the other hand, they offer higher interest rates than other government securities, such as Treasurys.
How Do Individuals Invest in Agency Bonds?
Individuals can invest in agency bonds through a securities broker, such as Fidelity and TD Ameritrade. Many agency bonds require a minimum initial investment, often between $5,000 and $10,000.
What Are the Risks of Agency Bonds?
As with other bonds, the market value of agency bonds will decrease as interest rates increase. Another example is call risk: agency bonds are usually callable by the bond issuer, meaning that the issuing agency may be able to pay off the bond early, giving less profit than expected to the investor.
The Bottom Line
Agency bonds allow individuals and institutions to gain a higher return than Treasury bonds while sacrificing little risk or liquidity. In addition, the bond structures found in agency offerings allow buyers to tailor their portfolios to their circumstances.
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