N-CSR

UNITED STATES 

SECURITIES AND EXCHANGE COMMISSION 

Washington, D.C. 20549 

FORM N-CSR 

CERTIFIED SHAREHOLDER REPORT OF REGISTERED 

MANAGEMENT INVESTMENT COMPANIES 

Investment Company Act File Number: 811-4441 

T. Rowe Price GNMA Fund

(Exact name of registrant as specified in charter) 

100 East Pratt Street, Baltimore, MD 21202 

(Address of principal executive offices) 

David Oestreicher 

 100 East Pratt Street, Baltimore, MD 21202 

 (Name and address of agent for service) 

Registrant’s telephone number, including area code: (410) 345-2000 

Date of fiscal year end: May 31 

Date of reporting period: May 31, 2010 

Item 1: Report to Shareholders

 GNMA Fund May 31, 2010 

The views and opinions in this report were current as of May 31, 2010. They are not guarantees of performance or investment results and should not be taken as investment advice. Investment decisions reflect a variety of factors, and the managers reserve the right to change their views about individual stocks, sectors, and the markets at any time. As a result, the views expressed should not be relied upon as a forecast of the fund’s future investment intent. The report is certified under the Sarbanes-Oxley Act, which requires mutual funds and other public companies to affirm that, to the best of their knowledge, the information in their financial reports is fairly and accurately stated in all material respects.

REPORTS ON THE WEB

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Manager’s Letter

Fellow Shareholders

GNMA bonds and other mortgage-backed securities (MBS) enjoyed decent returns over the past six months and year. Continued worries over the strength of the U.S. economic recovery and new fears about credit problems in Europe kept overall interest rates low. In addition, factors particular to the MBS market, including negative net new issuance and the inability of many homeowners to pay off existing mortgages as rates fell, helped boost bond prices. Finally, the Federal Reserve discontinued its massive program of MBS purchases as planned at the end of March, but limited supply of new issues helped keep supply and demand within the MBS market in equilibrium. The GNMA Fund enjoyed modest returns in this environment, with the bulk of returns coming from dividend income.

ECONOMY AND INTEREST RATES

Most signs indicated that the U.S. economy continued recovering over the past six months, albeit at an uneven pace. Businesses resumed hiring in earnest in March and April for the first time in over two years, although the pace of private-sector job creation fell back sharply in May, and the unemployment rate remained elevated. Consumer spending continued to inch higher, and gauges of consumer confidence suggested that Americans were becoming somewhat more optimistic about the economy’s direction. The housing sector appeared to have stabilized, thanks in part to homebuyer tax incentives. Manufacturing seemed to be leading the way in the recovery, due partly to healthy export markets.

In a sign that the Federal Reserve was confident that U.S. credit markets were faring better, the central bank took its first step toward removing extraordinary policy accommodation. On February 18, 2010, the Fed announced that it was raising the discount rate it charges member banks for emergency loans by a quarter of a percentage point, to 0.75%. The Fed took pains to assure investors, however, that the more influential federal funds rate—which directly affects consumer and business lending rates—would not be increased in the near future. The short-term inflation threat appeared well contained. The year-over-year increase in core inflation, which excludes volatile food and energy prices, fell to its lowest level in over 40 years.

Worries over sovereign debt markets dominated bond headlines toward the end of the period. Disturbing echoes of the 2008 financial crisis appeared in the form of growing concerns about spiraling deficits in Portugal; Spain; and, in particular, Greece. Although most observers agreed that outright defaults on sovereign debt were highly unlikely, some worried that a new contagion might spread to other European markets—or that at least the Continent’s growth would slow as interest rates in peripheral European Union nations climbed and as Germany and other large economies diverted resources to help Greece deal with its debt issues. While good domestic economic prospects might normally result in rising yields and declining bond prices, concerns about turmoil in European credit markets boosted demand for the safe haven of U.S. Treasuries.

PERFORMANCE AND STRATEGY REVIEW

The GNMA Fund returned 2.50% for the six-month period and 7.04% for the 12-month period ended May 31, 2010. As shown in the Performance Comparison table, the portfolio outperformed the Barclays Capital U.S. GNMA Index over both periods while underperforming its peer group of funds, as represented by the Lipper GNMA Funds Average.

Over both periods, we benefited from a modest allocation to top-tier, AAA rated commercial mortgage-backed securities (CMBS). In addition to its holdings of individual bonds, the fund also holds CMBS indirectly through a stake in T. Rowe Price’s Term Asset-Backed Opportunity Fund, a vehicle (not open to individual investors) that takes advantage of favorable leverage terms though the Term Asset-Backed Securities Loan Facility (TALF) program mentioned later in this letter. Though we tend not to stray far from our index when it comes to duration (a measure of sensitivity to interest rate changes) and yield curve posturing, our positioning in these areas also helped performance. Finally, much of our time is dedicated to careful selection of MBS pools with appealing valuations and that respond well to changes in interest rates—an effort that continues to aid the fund’s returns.

Following the extreme turbulence in the financial markets of 2008 and early 2009, investors in fixed income “spread products” (securities other than risk-free Treasuries) have watched returns march almost steadily in one direction—upward. Buoyed by the “shock and awe” response of the U.S. government to the financial crisis, securitized products—many of them among the hardest-hit financial instruments when markets seized in late 2008—have been among the strongest performers in the fixed income markets and have enjoyed unprecedented returns. The chart on page 4 illustrates the excess return over equal-duration Treasuries for various sectors for the one-year periods ended May 31, 2010, and May 31, 2009.

As can be seen, GNMA bonds have garnered solid outperformance versus Treasuries. However, this has been modest relative to the stellar performance of the riskier asset-backed securities (ABS) and CMBS segments—though GNMAs avoided much of the previous year’s carnage in these sectors.

The prevailing question entering 2010 was whether or not many areas of the financial system that were on government life support could survive on their own in the midst of a fragile economic recovery and still somewhat timid investor sentiment. So far, the answer seems to be in the affirmative. The TALF program, which ended on March 31, was widely considered an enormous success, as the prospect of cheap leverage through government-issued loans enticed investors back into the market and drove interest rates on everything from auto loans to credit cards back to pre-crisis levels. In fact, the conclusion of this program was a nonevent, as the ABS sector was standing on its own well before the March 31 deadline. CMBS also benefited from the TALF program in addition to the Public-Private Investment Program, which spawned multiple government/private asset manager-partnered funds and billions of dollars in buying power focused on the more heavily distressed non-agency MBS and CMBS sectors. Much like ABS, the CMBS market seems to be relatively healthy again, though it is still vulnerable to bouts of risk aversion, as illustrated in May, when the sovereign credit situation in Europe took on a more ominous tone.

For agency MBS such as GNMA bonds, which make up the vast majority of the GNMA Fund, the lifeline came in the form of the Fed’s “quantitative easing” program. By purchasing $1.25 trillion of securities, the Fed entrenched itself as the primary player in this market, substantially lowering MBS spreads and, by extension, mortgage rates available to borrowers. Like TALF, this program came to an end on March 31, leading most investors to expect some degree of underperformance by MBS given the departure of a huge source of demand from the market. Fortunately, this never materialized to any large degree, and MBS have continued to churn out strong and stable—if not spectacular—returns for investors.

MBS continue to benefit from several forces that make the securities an appealing option for investors. First, favorable technical factors remain in place. On the demand side, there is a consistent bid for GNMA paper for use in collateralized mortgage obligations. In addition, GNMAs have seen demand from overseas investors such as foreign central banks, which are attracted by the explicit guarantee from the U.S. government paired with higher yields than standard Treasury securities. On the supply side, negative net issuance—when the amount of MBS issued is less than the balance being paid down—should also support prices.

Secondly, MBS are performing unusually well in a falling interest rate environment, as loans are not being paid off as interest rates decline. Many homeowners are “underwater” on their homes, with the balance of their loan worth more than the house. When combined with still-tight credit conditions, the environment makes it quite difficult to take advantage of low rates by prepaying an old mortgage and securing a new one. What is bad news for homeowners is good news for investors, who are allowed to clip an attractive coupon for a longer time.

OUTLOOK

The mortgage market may yet underperform in a sustained highly volatile environment like investors experienced in late 2008. We are likely to regard any weakness in mortgage spreads as a buying opportunity, however. A sharp increase in rates would hurt mortgage performance, but we regard such a move as unlikely for the balance of 2010. Despite recent market turmoil surrounding the sovereign debt crisis in Greece and other parts of Europe, we believe U.S. bond markets will continue to improve over time. Our goal over the coming months remains to protect our shareholders through careful research and prudent risk management.

As always, thank you for investing with T. Rowe Price.

Respectfully submitted,

Andrew McCormick
President of the fund and chairman of the Investment Advisory Committee

June 9, 2010

The committee chairman has day-to-day responsibility for managing the portfolio and works with committee members in developing and executing the fund’s investment program.

RISK OF GNMA FUND INVESTING

Even though principal and interest payments on GNMAs are guaranteed, an increase in interest rates can cause share price to decline, resulting in a loss of principal. Investors in bond funds are also subject to several other types of risk—interest rate risk, credit risk, prepayment risk, extension risk, and derivatives risk. Since the fund invests primarily in GNMAs, which are backed by the full faith and credit of the U.S. government, its exposure to credit risk is low. A mortgage-backed bond, unlike most other bonds, can be hurt when interest rates fall because homeowners tend to refinance and prepay principal. Prepayments can cause the average maturity of the portfolio to shorten, require the fund to reinvest proceeds at lower interest rates, or even cause certain bonds’ prices to fall below what the fund paid for them, resulting in a capital loss. Increased interest rates can cause the fund’s average maturity to lengthen unexpectedly due to a drop in mortgage prepayments. Shareholders are also exposed to derivatives risk, the potential that our investments in these complex and volatile instruments could affect the fund’s share price.

GLOSSARY

30-day SEC yield: A method of calculating a fund’s yield that assumes all portfolio securities are held until maturity. Yield will vary and is not guaranteed.

Barclays Capital U.S. GNMA Index: Tracks the performance of mortgage-backed pass-through securities of the Government National Mortgage Association (GNMA).

Basis point: One one-hundredth of one percentage point, or 0.01%.

Current coupon GNMA: An index that tracks a theoretical 30-year GNMA mortgage that is priced at par. It is computed by interpolating from the two 30-year GNMAs whose prices bracket par.

Duration: A measure of a bond or bond fund’s sensitivity to changes in interest rates. For example, a fund with a duration of five years would fall about 5% in response to a one-percentage-point rise in rates, and vice versa.

Extension risk: As interest rates rise, the likelihood of prepayment decreases, and the average life and duration of mortgage securities lengthens. Investors are unable to capitalize on higher interest rates because their investment is locked in at a lower rate for a longer period of time.

Lipper averages: Consist of all mutual funds in a particular category as tracked by Lipper Inc.

Total return: The annual rate of return on a bond, taking into account interest income, plus appreciation or depreciation. If a bond is held to maturity, its total return equals its yield to maturity.

Weighted average maturity: The weighted average maturity is a measure of a fund’s interest rate sensitivity. In general, the longer the average maturity, the greater the fund’s sensitivity to interest rate changes. The weighted average maturity may take into account the interest rate readjustment dates for certain securities.

Yield curve: A graphic depiction of the relationship between yields and maturity dates for a set of similar securities, such as Treasuries or municipal securities. Securities with longer maturities usually have a higher yield. If short-term securities offer a higher yield, then the curve is said to be “inverted.” If short- and long-term bonds are offering equivalent yields, then the curve is said to be “flat.”

Performance and Expenses

GROWTH OF $10,000 

This chart shows the value of a hypothetical $10,000 investment in the fund over the past 10 fiscal year periods or since inception (for funds lacking 10-year records). The result is compared with benchmarks, which may include a broad-based market index and a peer group average or index. Market indexes do not include expenses, which are deducted from fund returns as well as mutual fund averages and indexes.

AVERAGE ANNUAL COMPOUND TOTAL RETURN 

This table shows how the fund would have performed each year if its actual (or cumulative) returns for the periods shown had been earned at a constant rate.

FUND EXPENSE EXAMPLE 

As a mutual fund shareholder, you may incur two types of costs: (1) transaction costs, such as redemption fees or sales loads, and (2) ongoing costs, including management fees, distribution and service (12b-1) fees, and other fund expenses. The following example is intended to help you understand your ongoing costs (in dollars) of investing in the fund and to compare these costs with the ongoing costs of investing in other mutual funds. The example is based on an investment of $1,000 invested at the beginning of the most recent six-month period and held for the entire period.

Actual Expenses
The first line of the following table (“Actual”) provides information about actual account values and expenses based on the fund’s actual returns. You may use the information in this line, together with your account balance, to estimate the expenses that you paid over the period. Simply divide your account value by $1,000 (for example, an $8,600 account value divided by $1,000 = 8.6), then multiply the result by the number in the first line under the heading “Expenses Paid During Period” to estimate the expenses you paid on your account during this period.

Hypothetical Example for Comparison Purposes
The information on the second line of the table (“Hypothetical”) is based on hypothetical account values and expenses derived from the fund’s actual expense ratio and an assumed 5% per year rate of return before expenses (not the fund’s actual return). You may compare the ongoing costs of investing in the fund with other funds by contrasting this 5% hypothetical example and the 5% hypothetical examples that appear in the shareholder reports of the other funds. The hypothetical account values and expenses may not be used to estimate the actual ending account balance or expenses you paid for the period.

Note: T. Rowe Price charges an annual small-account maintenance fee of $10, generally for accounts with less than $2,000 ($500 for UGMA/UTMA). The fee is waived for any investor whose T. Rowe Price mutual fund accounts total $25,000 or more, accounts employing automatic investing, and IRAs and other retirement plan accounts that utilize a prototype plan sponsored by T. Rowe Price (although a separate custodial or administrative fee may apply to such accounts). This fee is not included in the accompanying table. If you are subject to the fee, keep it in mind when you are estimating the ongoing expenses of investing in the fund and when comparing the expenses of this fund with other funds.

You should also be aware that the expenses shown in the table highlight only your ongoing costs and do not reflect any transaction costs, such as redemption fees or sales loads. Therefore, the second line of the table is useful in comparing ongoing costs only and will not help you determine the relative total costs of owning different funds. To the extent a fund charges transaction costs, however, the total cost of owning that fund is higher.

The accompanying notes are an integral part of these financial statements.

The accompanying notes are an integral part of these financial statements.

The accompanying notes are an integral part of these financial statements.

The accompanying notes are an integral part of these financial statements.

The accompanying notes are an integral part of these financial statements.

NOTES TO FINANCIAL STATEMENTS 

T. Rowe Price GNMA Fund (the fund), is registered under the Investment Company Act of 1940 (the 1940 Act) as a diversified, open-end management investment company. The fund commenced operations on November 26, 1985. The fund seeks high current income consistent with high overall credit quality and moderate price fluctuation by investing at least 80% of its total assets in GNMA securities backed by the full faith and credit of the U.S. government.

NOTE 1 - SIGNIFICANT ACCOUNTING POLICIES

Basis of Preparation The accompanying financial statements were prepared in accordance with accounting principles generally accepted in the United States of America (GAAP), which require the use of estimates made by fund management. Fund management believes that estimates and valuations are appropriate; however, actual results may differ from those estimates, and the valuations reflected in the accompanying financial statements may differ from the value ultimately realized upon sale of securities.

Investment Transactions, Investment Income, and Distributions Income and expenses are recorded on the accrual basis. Premiums and discounts on debt securities are amortized for financial reporting purposes. Paydown gains and losses are recorded as an adjustment to interest income. Dividends received from mutual fund investments are reflected as dividend income; capital gain distributions are reflected as realized gain/loss. Earnings on investments recognized as partnerships for federal income tax purposes reflect the tax character of such earnings. Dividend income and capital gain distributions are recorded on the ex-dividend date. Income tax-related interest and penalties, if incurred, would be recorded as income tax expense. Investment transactions are accounted for on the trade date. Realized gains and losses are reported on the identified cost basis. Distributions to shareholders are recorded on the ex-dividend date. Income distributions are declared daily and paid monthly. Capital gain distributions, if any, are generally declared and paid by the fund annually.

Credits The fund earns credits on temporarily uninvested cash balances held at the custodian, which reduce the fund’s custody charges. Custody expense in the accompanying financial statements is presented before reduction for credits.

New Accounting Pronouncement In January 2010, new accounting guidance was issued that requires enhanced disclosures about fair value measurements in the financial statements; it is effective for fiscal years and interim periods beginning after December 15, 2009. Management expects that adoption of this guidance will have no impact on the fund’s net assets or results of operations.

NOTE 2 - VALUATION

The fund’s investments are reported at fair value as defined by GAAP. The fund determines the values of its assets and liabilities and computes its net asset value per share at the close of the New York Stock Exchange (NYSE), normally 4 p.m. ET, each day that the NYSE is open for business. Values in the accompanying Portfolio of Investments are as of May 28, 2010, the last business day in the fund’s fiscal year ended May 31, 2010. Some foreign markets were open between May 28 and the close of the reporting period on May 31, but any differences in investment values and foreign exchange rates subsequent to May 28 through May 31 were immaterial to the fund’s financial statements.

Valuation Methods Debt securities are generally traded in the over-the-counter (OTC) market. Securities with remaining maturities of one year or more at the time of acquisition are valued at prices furnished by dealers who make markets in such securities or by an independent pricing service, which considers the yield or price of bonds of comparable quality, coupon, maturity, and type, as well as prices quoted by dealers who make markets in such securities. Securities with remaining maturities of less than one year at the time of acquisition generally use amortized cost in local currency to approximate fair value. However, if amortized cost is deemed not to reflect fair value or the fund holds a significant amount of such securities with remaining maturities of more than 60 days, the securities are valued at prices furnished by dealers who make markets in such securities or by an independent pricing service.

Investments in mutual funds are valued at the mutual fund’s closing net asset value per share on the day of valuation. Investments in private investment companies are valued at the entity’s net asset value (or equivalent) as of the valuation date. Financial futures contracts are valued at closing settlement prices.

Other investments, including restricted securities, and those financial instruments for which the above valuation procedures are inappropriate or are deemed not to reflect fair value are stated at fair value as determined in good faith by the T. Rowe Price Valuation Committee, established by the fund’s Board of Trustees.

Valuation Inputs Various inputs are used to determine the value of the fund’s financial instruments. These inputs are summarized in the three broad levels listed below:

Level 1 – quoted prices in active markets for identical financial instruments

Level 2 – observable inputs other than Level 1 quoted prices (including, but not limited to, quoted prices for similar financial instruments, interest rates, prepayment speeds, and credit risk)

Level 3 – unobservable inputs

Observable inputs are those based on market data obtained from sources independent of the fund, and unobservable inputs reflect the fund’s own assumptions based on the best information available. The input levels are not necessarily an indication of the risk or liquidity associated with financial instruments at that level. The following table summarizes the fund’s financial instruments, based on the inputs used to determine their values on May 31, 2010:

Following is a reconciliation of the fund’s Level 3 holdings for the year ended May 31, 2010. Gain (loss) reflects both realized and change in unrealized gain (loss) on Level 3 holdings during the period, if any, and is included on the accompanying Statement of Operations. The change in unrealized gain/loss on Level 3 instruments held at May 31, 2010, totaled $1,421,000 for the year ended May 31, 2010.

NOTE 3 - DERIVATIVE INSTRUMENTS

During the year ended May 31, 2010, the fund invested in derivative instruments. As defined by GAAP, a derivative is a financial instrument whose value is derived from an underlying security price, foreign exchange rate, interest rate, index of prices or rates, or other variable; it requires little or no initial investment and permits or requires net settlement. The fund invests in derivatives only if the expected risks and rewards are consistent with its investment objectives, policies, and overall risk profile, as described in its prospectus and Statement of Additional Information. The fund may use derivatives for a variety of purposes, such as seeking to hedge against declines in principal value, increase yield, invest in an asset with greater efficiency and at a lower cost than is possible through direct investment, or to adjust portfolio duration and credit exposure. The risks associated with the use of derivatives are different from, and potentially much greater than, the risks associated with investing directly in the instruments on which the derivatives are based. Investments in derivatives can magnify returns positively or negatively; however, the fund at all times maintains sufficient cash reserves, liquid assets, or other SEC-permitted asset types to cover the settlement obligations under its open derivative contracts.

The fund values its derivatives at fair value, as described below and in Note 2, and recognizes changes in fair value currently in its results of operations. Accordingly, the fund does not follow hedge accounting, even for derivatives employed as economic hedges. The fund does not offset the fair value of derivative instruments and the right to reclaim or obligation to return collateral executed with the same counterparty under a master netting arrangement. As of May 31, 2010, the fund held interest rate futures with cumulative unrealized gain of $2,000 and cumulative unrealized loss of $79,000; the value reflected on the accompanying Statement of Assets and Liabilities is the related unsettled variation margin.

Additionally, the amount of gains and losses on derivative instruments recognized in fund earnings during the year ended May 31, 2010, and the related location on the accompanying Statement of Operations is summarized in the following table by primary underlying risk exposure:

Futures Contracts The fund is subject to interest rate risk in the normal course of pursuing its investment objectives and uses futures contracts to help manage such risk. The fund may enter into futures contracts to manage exposure to interest rate and yield curve movements, security prices, foreign currencies, credit quality, and mortgage prepayments; as an efficient means of adjusting exposure to all or part of a target market; to enhance income; as a cash management tool; and/or to adjust portfolio duration and credit exposure. A futures contract provides for the future sale by one party and purchase by another of a specified amount of a particular underlying financial instrument at an agreed-upon price, date, time, and place. The fund currently invests only in exchange-traded futures, which generally are standardized as to maturity date, underlying financial instrument, and other contract terms. Upon entering into a futures contract, the fund is required to deposit with the broker cash or securities in an amount equal to a certain percentage of the contract value (initial margin deposit); the margin deposit must then be maintained at the established level over the life of the contract. Subsequent payments are made or received by the fund each day to settle daily fluctuations in the value of the contract (variation margin), which reflect changes in the value of the underlying financial instrument. Variation margin is recorded as unrealized gain or loss until the contract is closed. The value of a futures contract included in net assets is the amount of unsettled variation margin; net variation margin receivable is reflected as an asset, and net variation margin payable is reflected as a liability on the accompanying Statement of Assets and Liabilities. Risks related to the use of futures contracts include possible illiquidity of the futures markets, contract prices that can be highly volatile and imperfectly correlated to movements in hedged security values and/or interest rates, and potential losses in excess of the fund’s initial investment. During the year ended May 31, 2010, the fund’s exposure to futures, based on underlying notional amounts, was generally between 0% and 6% of net assets.

Interest Rate Swaps The fund is subject to interest rate risk in the normal course of pursuing its investment objectives and uses swap contracts to help manage such risk. The fund may use swaps in an effort to manage exposure to changes in interest rates and credit quality, to adjust overall exposure to certain markets, to enhance total return or protect the value of portfolio securities, to serve as a cash management tool, and/or to adjust portfolio duration and credit exposure. Interest rate swaps are agreements to exchange cash flows based on the difference between specified interest rates applied to a notional principal amount for a specified period of time. The value of a swap included in net assets is the unrealized gain or loss on the contract plus or minus any unamortized premiums paid or received, respectively. Appreciated swaps and premiums paid are reflected as assets, and depreciated swaps and premiums received are reflected as liabilities on the accompanying Statement of Assets and Liabilities. Net periodic receipts or payments required by swaps are accrued daily and are recorded as realized gain or loss for financial reporting purposes; fluctuations in the fair value of swaps are reflected in the change in net unrealized gain or loss and are reclassified to realized gain or loss upon termination prior to maturity or cash settlement. Risks related to the use of interest rate swaps include the potential for unanticipated movements in interest and/or currency rates, the possible failure of a counterparty to perform in accordance with the terms of the swap agreements, potential government regulation that could adversely affect the fund’s swap investments, and potential losses in excess of the fund’s initial investment. During the year ended May 31, 2010, the fund’s exposure to swaps, based on underlying notional amounts, was generally between 0% and 6% of net assets.

Counterparty Risk and Collateral The fund has entered into collateral agreements with certain counterparties to mitigate counterparty risk associated with over-the-counter (OTC) derivatives, including swaps and forward currency exchange contracts. Subject to certain minimum exposure requirements (which range from $100,000 to $500,000), collateral generally is determined based on the net aggregate unrealized gain or loss on all OTC derivative contracts with a particular counterparty. Collateral, both pledged by and for the benefit of the fund, is held in a segregated account by a third-party agent and can be in the form of cash or debt securities issued by the U.S. government or related agencies. Securities posted as collateral by the fund are so noted in the accompanying Portfolio of Investments and remain in the fund’s net assets. As of May 31, 2010, no collateral was pledged by either the fund or counterparties.

At any point in time, the fund’s risk of loss from counterparty credit risk on OTC derivatives is the aggregate unrealized gain on appreciated contracts in excess of any collateral pledged by the counterparty for the benefit of the fund. Counterparty risk related to exchange-traded futures and options contracts is minimal because the exchange’s clearinghouse provides protection against defaults. In accordance with standard derivatives agreements, counterparties to OTC derivatives may be able to terminate derivative contracts prior to maturity in the event the fund fails to maintain sufficient asset coverage; its net assets decline by stated percentages; or it otherwise fails to meet the terms of its agreements, which would cause the fund to accelerate payment of any net liability owed to the counterparty under the contract. For exchange-traded derivatives such as futures and options, each broker, in its sole discretion, may change margin requirements applicable to the fund.

NOTE 4 - OTHER INVESTMENT TRANSACTIONS

Consistent with its investment objective, the fund engages in the following practices to manage exposure to certain risks and/or to enhance performance. The investment objective, policies, program, and risk factors of the fund are described more fully in the fund’s prospectus and Statement of Additional Information.

Restricted Securities The fund may invest in securities that are subject to legal or contractual restrictions on resale. Prompt sale of such securities at an acceptable price may be difficult and may involve substantial delays and additional costs.

TBA Purchase Commitments During the year ended May 31, 2010, the fund entered into to be announced (TBA) purchase commitments, pursuant to which it agrees to purchase mortgage-backed securities for a fixed unit price, with payment and delivery at a scheduled future date beyond the customary settlement period for that security. With TBA transactions, the particular securities to be delivered are not identified at the trade date; however, delivered securities must meet specified terms, including issuer, rate, and mortgage term, and be within industry-accepted “good delivery” standards. The fund generally enters into TBA transactions with the intention of taking possession of the underlying mortgage securities. Until settlement, the fund maintains cash reserves and liquid assets sufficient to settle its TBA commitments.

T. Rowe Price Term Asset-Backed Opportunity Fund, L.L.C. During the year ended May 31, 2010, the fund invested in the T. Rowe Price Term Asset-Backed Opportunity Fund, L.L.C. (private fund), a private investment company managed by Price Associates that participates in the Term Asset-Backed Securities Loan Facility (TALF) program created and administered by the Federal Reserve Bank of New York (FRBNY). The TALF program provides eligible borrowers with term loans secured by eligible asset-backed securities and/or commercial mortgage-backed securities, which are either owned by the borrower or purchased by the borrower and subsequently pledged as collateral for a TALF loan. TALF loans generally are nonrecourse in nature. The private fund is treated as a partnership for federal income tax purposes. It has a limited life extending five years from final termination of the TALF program, currently scheduled for June 30, 2010, with two possible one-year extensions. Invested capital generally will be returned to investors as underlying securities are liquidated and the TALF loans mature, with the balance paid at maturity of the private fund. Ownership interests in the private fund may not be redeemed, sold, or assigned. As of May 31, 2010, the fund had outstanding capital commitments in the amount of $6,116,000 which may be called at the discretion of the private fund’s manager.

Other Purchases and sales of portfolio securities other than short-term and U.S. government securities aggregated $72,612,000 and $67,788,000, respectively, for the year ended May 31, 2010. Purchases and sales of U.S. government securities aggregated $1,094,036,000 and $1,067,008,000, respectively, for the year ended May 31, 2010.

NOTE 5 - FEDERAL INCOME TAXES

No provision for federal income taxes is required since the fund intends to continue to qualify as a regulated investment company under Subchapter M of the Internal Revenue Code and distribute to shareholders all of its taxable income and gains. Distributions determined in accordance with federal income tax regulations may differ in amount or character from net investment income and realized gains for financial reporting purposes. Financial reporting records are adjusted for permanent book/tax differences to reflect tax character but are not adjusted for temporary differences.

The fund files U.S. federal, state, and local tax returns as required. The fund’s tax returns are subject to examination by the relevant tax authorities until expiration of the applicable statute of limitations, which is generally three years after filing of the tax return but could be longer in certain circumstances.

Reclassifications between income and gain relate primarily to the character of paydown gains and losses on asset-backed securities. For the year ended May 31, 2010, the following reclassifications were recorded to reflect tax character; there was no impact on results of operations or net assets:

Distributions during the years ended May 31, 2010 and May 31, 2009, totaled $64,494,000 and $64,239,000, respectively, and were characterized as ordinary income for tax purposes. At May 31, 2010, the tax-basis cost of investments and components of net assets were as follows:

The fund intends to retain realized gains to the extent of available capital loss carryforwards. The fund’s unused capital loss carryforwards as of May 31, 2010, expire: $5,093,000 in fiscal 2012, $4,682,000 in fiscal 2013, $7,179,000 in fiscal 2014, $9,033,000 in fiscal 2015, $306,000 in fiscal 2016 and $90,000 in fiscal 2018.

NOTE 6 - RELATED PARTY TRANSACTIONS

The fund is managed by T. Rowe Price Associates, Inc. (the manager or Price Associates), a wholly owned subsidiary of T. Rowe Price Group, Inc. The investment management agreement between the fund and the manager provides for an annual investment management fee, which is computed daily and paid monthly. The fee consists of an individual fund fee, equal to 0.15% of the fund’s average daily net assets, and a group fee. The group fee rate is calculated based on the combined net assets of certain mutual funds sponsored by Price Associates (the group) applied to a graduated fee schedule, with rates ranging from 0.48% for the first $1 billion of assets to 0.285% for assets in excess of $220 billion. The fund’s group fee is determined by applying the group fee rate to the fund’s average daily net assets. At May 31, 2010, the effective annual group fee rate was 0.30%.

In addition, the fund has entered into service agreements with Price Associates and two wholly owned subsidiaries of Price Associates (collectively, Price). Price Associates computes the daily share price and provides certain other administrative services to the fund. T. Rowe Price Services, Inc., provides shareholder and administrative services in its capacity as the fund’s transfer and dividend disbursing agent. T. Rowe Price Retirement Plan Services, Inc., provides subaccounting and recordkeeping services for certain retirement accounts invested in the fund. For the year ended May 31, 2010, expenses incurred pursuant to these service agreements were $110,000 for Price Associates; $593,000 for T. Rowe Price Services, Inc.; and $211,000 for T. Rowe Price Retirement Plan Services, Inc. The total amount payable at period-end pursuant to these service agreements is reflected as Due to Affiliates in the accompanying financial statements.

The fund is also one of several mutual funds sponsored by Price Associates (underlying Price funds) in which the T. Rowe Price Spectrum Funds (Spectrum Funds) may invest. The Spectrum Funds do not invest in the underlying Price funds for the purpose of exercising management or control. Pursuant to a special servicing agreement, expenses associated with the operation of the Spectrum Funds are borne by each underlying Price fund to the extent of estimated savings to it and in proportion to the average daily value of its shares owned by the Spectrum Funds. Expenses allocated under this agreement are reflected as shareholder servicing expense in the accompanying financial statements. For the year ended May 31, 2010, the fund was allocated $882,000 of Spectrum Funds’ expenses, of which $617,000 related to services provided by Price. The amount payable at period-end pursuant to this agreement is reflected as Due to Affiliates in the accompanying financial statements. At May 31, 2010, approximately 33% of the outstanding shares of the fund were held by the Spectrum Funds.

The fund may invest in the T. Rowe Price Reserve Investment Fund and the T. Rowe Price Government Reserve Investment Fund (collectively, the T. Rowe Price Reserve Investment Funds), open-end management investment companies managed by Price Associates and considered affiliates of the fund. The T. Rowe Price Reserve Investment Funds are offered as cash management options to mutual funds, trusts, and other accounts managed by Price Associates and/or its affiliates and are not available for direct purchase by members of the public. The T. Rowe Price Reserve Investment Funds pay no investment management fees.

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM 

To the Board of Directors and Shareholders of T. Rowe Price GNMA Fund

In our opinion, the accompanying statement of assets and liabilities, including the portfolio of investments, and the related statements of operations and of changes in net assets and the financial highlights present fairly, in all material respects, the financial position of T. Rowe Price GNMA Fund (the “Fund”) at May 31, 2010, the results of its operations for the year then ended, the changes in its net assets for each of the two years in the period then ended and the financial highlights for each of the five years in the period then ended, in conformity with accounting principles generally accepted in the United States of America. These financial statements and financial highlights (hereafter referred to as “financial statements”) are the responsibility of the Fund’s management; our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits of these financial statements in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits, which included confirmation of securities at May 31, 2010 by correspondence with the custodian and brokers, and confirmation of the underlying funds by correspondence with the transfer agent and recordkeeper, provide a reasonable basis for our opinion.

PricewaterhouseCoopers LLP
Baltimore, Maryland
July 16, 2010

TAX INFORMATION (UNAUDITED) FOR THE TAX YEAR ENDED 5/31/10  

We are providing this information as required by the Internal Revenue Code. The amounts shown may differ from those elsewhere in this report because of differences between tax and financial reporting requirements.

The fund’s distributions to shareholders included $316,000 from short-term capital gains.

INFORMATION ON PROXY VOTING POLICIES, PROCEDURES, AND RECORDS 

A description of the policies and procedures used by T. Rowe Price funds and portfolios to determine how to vote proxies relating to portfolio securities is available in each fund’s Statement of Additional Information, which you may request by calling 1-800-225-5132 or by accessing the SEC’s Web site, www.sec.gov. The description of our proxy voting policies and procedures is also available on our Web site, www.troweprice.com. To access it, click on the words “Our Company” at the top of our corporate homepage. Then, when the next page appears, click on the words “Proxy Voting Policies” on the left side of the page.

Each fund’s most recent annual proxy voting record is available on our Web site and through the SEC’s Web site. To access it through our Web site, follow the directions above, then click on the words “Proxy Voting Records” on the right side of the Proxy Voting Policies page.

HOW TO OBTAIN QUARTERLY PORTFOLIO HOLDINGS 

The fund files a complete schedule of portfolio holdings with the Securities and Exchange Commission for the first and third quarters of each fiscal year on Form N-Q. The fund’s Form N-Q is available electronically on the SEC’s Web site (www.sec.gov); hard copies may be reviewed and copied at the SEC’s Public Reference Room, 450 Fifth St. N.W., Washington, DC 20549. For more information on the Public Reference Room, call 1-800-SEC-0330.

APPROVAL OF INVESTMENT MANAGEMENT AGREEMENT  

On March 9, 2010, the fund’s Board of Trustees (Board) unanimously approved the continuation of the investment advisory contract (Contract) between the fund and its investment manager, T. Rowe Price Associates, Inc. (Adviser). The Board considered a variety of factors in connection with its review of the Contract, also taking into account information provided by the Adviser during the course of the year, as discussed below:

Services Provided by the Adviser
The Board considered the nature, quality, and extent of the services provided to the fund by the Adviser. These services included, but were not limited to, management of the fund’s portfolio and a variety of related activities, as well as financial and administrative services, reporting, and communications. The Board also reviewed the background and experience of the Adviser’s senior management team and investment personnel involved in the management of the fund. The Board concluded that it was satisfied with the nature, quality, and extent of the services provided by the Adviser.

Investment Performance of the Fund
The Board reviewed the fund’s average annual total returns over the 1-, 3-, 5-, and 10-year periods, as well as the fund’s year-by-year returns, and compared these returns with a wide variety of previously agreed upon comparable performance measures and market data, including those supplied by Lipper and Morningstar, which are independent providers of mutual fund data. On the basis of this evaluation and the Board’s ongoing review of investment results, and factoring in the severity of the market turmoil during 2008 and 2009, the Board concluded that the fund’s performance was satisfactory.

Costs, Benefits, Profits, and Economies of Scale
The Board reviewed detailed information regarding the revenues received by the Adviser under the Contract and other benefits that the Adviser (and its affiliates) may have realized from its relationship with the fund, including research received under “soft dollar” agreements and commission-sharing arrangements with broker-dealers. The Board considered that the Adviser may receive some benefit from its soft-dollar arrangements pursuant to which it receives research from broker-dealers that execute the applicable fund’s portfolio transactions. The Board also received information on the estimated costs incurred and profits realized by the Adviser and its affiliates from advising T. Rowe Price mutual funds, as well as estimates of the gross profits realized from managing the fund in particular. The Board concluded that the Adviser’s profits were reasonable in light of the services provided to the fund. The Board also considered whether the fund or other funds benefit under the fee levels set forth in the Contract from any economies of scale realized by the Adviser. Under the Contract, the fund pays a fee to the Adviser composed of two components—a group fee rate based on the aggregate assets of certain T. Rowe Price mutual funds (including the fund) that declines at certain asset levels and an individual fund fee rate that is assessed on the assets of the fund. The Board concluded that the advisory fee structure for the fund continued to provide for a reasonable sharing of benefits from any economies of scale with the fund’s investors.

Fees
The Board reviewed the fund’s management fee rate, operating expenses, and total expense ratio and compared them with fees and expenses of other comparable funds based on information and data supplied by Lipper. The information provided to the Board indicated that the fund’s management fee rate was above the median for comparable funds, and the fund’s total expense ratio was above the median for certain groups of comparable funds but at or below the median for other groups of comparable funds. The Board also reviewed the fee schedules for institutional accounts of the Adviser and its affiliates with smaller mandates. Management informed the Board that the Adviser’s responsibilities for institutional accounts are more limited than its responsibilities for the fund and other T. Rowe Price mutual funds that it or its affiliates advise and that the Adviser performs significant additional services and assumes greater risk for the fund and other T. Rowe Price mutual funds that it advises than it does for institutional accounts. On the basis of the information provided, the Board concluded that the fees paid by the fund under the Contract were reasonable.

Approval of the Contract
As noted, the Board approved the continuation of the Contract. No single factor was considered in isolation or to be determinative to the decision. Rather, the Board was assisted by the advice of independent legal counsel and concluded, in light of a weighting and balancing of all factors considered, that it was in the best interests of the fund to approve the continuation of the Contract, including the fees to be charged for services thereunder.

ABOUT THE FUND’S TRUSTEES AND OFFICERS 

Your fund is overseen by a Board of Trustees (Board) that meets regularly to review a wide variety of matters affecting the fund, including performance, investment programs, compliance matters, advisory fees and expenses, service providers, and other business affairs. The Board elects the fund’s officers, who are listed in the final table. At least 75% of Board members are independent of T. Rowe Price Associates, Inc. (T. Rowe Price), and T. Rowe Price International, Inc. (T. Rowe Price International); “inside” or “interested” trustees are employees or officers of T. Rowe Price. The business address of each trustee and officer is 100 East Pratt Street, Baltimore, Maryland 21202. The Statement of Additional Information includes additional information about the fund trustees and is available without charge by calling a T. Rowe Price representative at 1-800-225-5132.

Independent Trustees
Name
(Year of Birth)	Principal Occupation(s) During Past Five Years and Directorships
Year Elected*	of Other Public Companies
William R. Brody	President and Trustee, Salk Institute for Biological Studies (2009
(1944)	to present); Director, Novartis, Inc. (2009 to present); Director, IBM
2009	(2007 to present); President and Trustee, Johns Hopkins University
	(1996 to 2009); Chairman of Executive Committee and Trustee,
	Johns Hopkins Health System (1996 to 2009)
Jeremiah E. Casey	Director, National Life Insurance (2001 to 2005); Director, NLV
(1940)	Financial Corporation (2004 to 2005)
2006
Anthony W. Deering	Chairman, Exeter Capital, LLC, a private investment firm (2004
(1945)	to present); Director, Under Armour (2008 to present); Director,
1985	Vornado Real Estate Investment Trust (2004 to present); Director,
	Mercantile Bankshares (2002 to 2007); Member, Advisory Board,
	Deutsche Bank North America (2004 to present)
Donald W. Dick, Jr.	Principal, EuroCapital Partners, LLC, an acquisition and management
(1943)	advisory firm (1995 to present)
2001
Karen N. Horn	Senior Managing Director, Brock Capital Group, an advisory and
(1943)	investment banking firm (2004 to present); Director, Eli Lilly and
2003	Company (1987 to present); Director, Simon Property Group (2004
	to present); Director, Norfolk Southern (2008 to present); Director,
	Georgia Pacific (2004 to 2005); Director, Fannie Mae (2006 to 2008)
Theo C. Rodgers	President, A&R Development Corporation (1977 to present)
(1941)
2005

John G. Schreiber	Owner/President, Centaur Capital Partners, Inc., a real estate
(1946)	investment company (1991 to present); Cofounder and Partner,
1992	Blackstone Real Estate Advisors, L.P. (1992 to present)
Mark R. Tercek	President and Chief Executive Officer, The Nature Conservancy
(1957)	(2008 to present); Managing Director, The Goldman Sachs Group,
2009	Inc. (1984 to 2008)
*Each independent trustee oversees 125 T. Rowe Price portfolios and serves until retirement, resignation,
or election of a successor.

Inside Trustees
Name
(Year of Birth)
Year Elected*
[Number of T. Rowe Price	Principal Occupation(s) During Past Five Years and Directorships
Portfolios Overseen]	of Other Public Companies
Edward C. Bernard	Director and Vice President, T. Rowe Price; Vice Chairman of the
(1956)	Board, Director, and Vice President, T. Rowe Price Group, Inc.;
2006	Chairman of the Board, Director, and President, T. Rowe Price
[125]	Investment Services, Inc.; Chairman of the Board and Director,
	T. Rowe Price Global Asset Management Limited, T. Rowe Price
	Global Investment Services Limited, T. Rowe Price Retirement
	Plan Services, Inc., T. Rowe Price Savings Bank, and T. Rowe Price
	Services, Inc.; Director, T. Rowe Price International, Inc.; Chief
	Executive Officer, Chairman of the Board, Director, and President,
	T. Rowe Price Trust Company; Chairman of the Board, all funds
Michael C. Gitlin	Vice President, T. Rowe Price, T. Rowe Price Global Investment
(1970)	Services Limited, T. Rowe Price Group, Inc., and T. Rowe Price
2010	International, Inc.; Director of Fixed Income, T. Rowe Price (2009
[39]	to present); Global Head of Trading, T. Rowe Price (2007 to 2009);
	formerly Head of U.S. Equity Sales, Citigroup Global Markets (2005
	to 2007)
*Each inside trustee serves until retirement, resignation, or election of a successor.

Officers
Name (Year of Birth)
Position Held With GNMA Fund	Principal Occupation(s)
Christopher P. Brown (1977)	Assistant Vice President, T. Rowe Price
Vice President
Roger L. Fiery III, CPA (1959)	Vice President, T. Rowe Price, T. Rowe Price
Vice President	Group, Inc., T. Rowe Price International, Inc.,
	and T. Rowe Price Trust Company
John R. Gilner (1961)	Chief Compliance Officer and Vice President,
Chief Compliance Officer	T. Rowe Price; Vice President, T. Rowe Price
	Group, Inc., and T. Rowe Price Investment
	Services, Inc.
Gregory S. Golczewski (1966)	Vice President, T. Rowe Price and T. Rowe Price
Vice President	Trust Company
Gregory K. Hinkle, CPA (1958)	Vice President, T. Rowe Price, T. Rowe Price
Treasurer	Group, Inc., and T. Rowe Price Trust Company;
	formerly Partner, PricewaterhouseCoopers LLP
	(to 2007)
Keir R. Joyce, CFA (1972)	Vice President, T. Rowe Price and T. Rowe Price
Vice President	Group, Inc.
Alan D. Levenson, Ph.D. (1958)	Vice President, T. Rowe Price and T. Rowe Price
Vice President	Group, Inc.
Patricia B. Lippert (1953)	Assistant Vice President, T. Rowe Price and
Secretary	T. Rowe Price Investment Services, Inc.
Andrew McCormick (1960)	Vice President, T. Rowe Price, T. Rowe Price
President	Group, Inc., and T. Rowe Price Trust Company;
	formerly Chief Investment Officer, IMPAC
	Mortgage Holdings (to 2008); Senior Portfolio
	Manager, Avenue Capital Group (to 2006); and
	Senior Vice President, Portfolio Transactions,
	Federal National Mortgage Association
	(to 2005)

David Oestreicher (1967)	Director and Vice President, T. Rowe Price
Vice President	Investment Services, Inc., T. Rowe Price Trust
	Company, and T. Rowe Price Services, Inc.; Vice
	President, T. Rowe Price, T. Rowe Price Global
	Asset Management Limited, T. Rowe Price
	Global Investment Services Limited, T. Rowe
	Price Group, Inc., T. Rowe Price International,
	Inc., and T. Rowe Price Retirement Plan
	Services, Inc.
Deborah D. Seidel (1962)	Vice President, T. Rowe Price, T. Rowe Price
Vice President	Investment Services, Inc., and T. Rowe Price
	Services, Inc.
Julie L. Waples (1970)	Vice President, T. Rowe Price
Vice President
John D. Wells (1960)	Vice President, T. Rowe Price, T. Rowe Price
Vice President	Group, Inc., and T. Rowe Price Savings Bank
Unless otherwise noted, officers have been employees of T. Rowe Price or T. Rowe Price International
for at least five years

Item 2. Code of Ethics.

The registrant has adopted a code of ethics, as defined in Item 2 of Form N-CSR, applicable to its principal executive officer, principal financial officer, principal accounting officer or controller, or persons performing similar functions. A copy of this code of ethics is filed as an exhibit to this Form N-CSR. No substantive amendments were approved or waivers were granted to this code of ethics during the period covered by this report.

Item 3. Audit Committee Financial Expert.

The registrant’s Board of Directors/Trustees has determined that Mr. Anthony W. Deering qualifies as an audit committee financial expert, as defined in Item 3 of Form N-CSR. Mr. Deering is considered independent for purposes of Item 3 of Form N-CSR.

Item 4. Principal Accountant Fees and Services.

(a) – (d) Aggregate fees billed to the registrant for the last two fiscal years for professional services rendered by the registrant’s principal accountant were as follows:

Audit fees include amounts related to the audit of the registrant’s annual financial statements and services normally provided by the accountant in connection with statutory and regulatory filings. Audit-related fees include amounts reasonably related to the performance of the audit of the registrant’s financial statements and specifically include the issuance of a report on internal controls and, if applicable, agreed-upon procedures related to fund acquisitions. Tax fees include amounts related to services for tax compliance, tax planning, and tax advice. The nature of these services specifically includes the review of distribution calculations and the preparation of Federal, state, and excise tax returns. All other fees include the registrant’s pro-rata share of amounts for agreed-upon procedures in conjunction with service contract approvals by the registrant’s Board of Directors/Trustees.

(e)(1) The registrant’s audit committee has adopted a policy whereby audit and non-audit services performed by the registrant’s principal accountant for the registrant, its investment adviser, and any entity controlling, controlled by, or under common control with the investment adviser that provides ongoing services to the registrant require pre-approval in advance at regularly scheduled audit committee meetings. If such a service is required between regularly scheduled audit committee meetings, pre-approval may be authorized by one audit committee member with ratification at the next scheduled audit committee meeting. Waiver of pre-approval for audit or non-audit services requiring fees of a de minimis amount is not permitted.

    (2) No services included in (b) – (d) above were approved pursuant to paragraph (c)(7)(i)(C) of Rule 2-01 of Regulation S-X.

(f) Less than 50 percent of the hours expended on the principal accountant’s engagement to audit the registrant’s financial statements for the most recent fiscal year were attributed to work performed by persons other than the principal accountant’s full-time, permanent employees.

(g) The aggregate fees billed for the most recent fiscal year and the preceding fiscal year by the registrant’s principal accountant for non-audit services rendered to the registrant, its investment adviser, and any entity controlling, controlled by, or under common control with the investment adviser that provides ongoing services to the registrant were $1,879,000 and $1,922,000, respectively.

(h) All non-audit services rendered in (g) above were pre-approved by the registrant’s audit committee. Accordingly, these services were considered by the registrant’s audit committee in maintaining the principal accountant’s independence.

Item 5. Audit Committee of Listed Registrants.

Not applicable.

Item 6. Investments.

(a) Not applicable. The complete schedule of investments is included in Item 1 of this Form N-CSR.

(b) Not applicable.

Item 7. Disclosure of Proxy Voting Policies and Procedures for Closed-End Management Investment Companies.

Not applicable.

Item 8. Portfolio Managers of Closed-End Management Investment Companies.

Not applicable.

Item 9. Purchases of Equity Securities by Closed-End Management Investment Company and Affiliated Purchasers.

Not applicable.

Item 10. Submission of Matters to a Vote of Security Holders.

Not applicable.

Item 11. Controls and Procedures.

(a) The registrant’s principal executive officer and principal financial officer have evaluated the registrant’s disclosure controls and procedures within 90 days of this filing and have concluded that the registrant’s disclosure controls and procedures were effective, as of that date, in ensuring that information required to be disclosed by the registrant in this Form N-CSR was recorded, processed, summarized, and reported timely.

(b) The registrant’s principal executive officer and principal financial officer are aware of no change in the registrant’s internal control over financial reporting that occurred during the registrant’s second fiscal quarter covered by this report that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting.

Item 12. Exhibits.

(a)(1) The registrant’s code of ethics pursuant to Item 2 of Form N-CSR is attached.

    (2) Separate certifications by the registrant's principal executive officer and principal financial officer, pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 and required by Rule 30a-2(a) under the Investment Company Act of 1940, are attached.

    (3) Written solicitation to repurchase securities issued by closed-end companies: not applicable.

(b) A certification by the registrant's principal executive officer and principal financial officer, pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 and required by Rule 30a-2(b) under the Investment Company Act of 1940, is attached.

SIGNATURES
	Pursuant to the requirements of the Securities Exchange Act of 1934 and the Investment
Company Act of 1940, the registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
T. Rowe Price GNMA Fund
By	/s/ Edward C. Bernard
	Edward C. Bernard
	Principal Executive Officer
Date	July 16, 2010
	Pursuant to the requirements of the Securities Exchange Act of 1934 and the Investment
Company Act of 1940, this report has been signed below by the following persons on behalf of
the registrant and in the capacities and on the dates indicated.
By	/s/ Edward C. Bernard
	Edward C. Bernard
	Principal Executive Officer
Date	July 16, 2010
By	/s/ Gregory K. Hinkle
	Gregory K. Hinkle
	Principal Financial Officer
Date	July 16, 2010

EX-99.CERT

Item 12(a)(2).

CERTIFICATIONS 

I, Edward C. Bernard, certify that:
1.	I have reviewed this report on Form N-CSR of T. Rowe Price GNMA Fund;
2.	Based on my knowledge, this report does not contain any untrue statement of a material fact or omit
	to state a material fact necessary to make the statements made, in light of the circumstances under
	which such statements were made, not misleading with respect to the period covered by this report;
3.	Based on my knowledge, the financial statements, and other financial information included in this
	report, fairly present in all material respects the financial condition, results of operations, changes in
	net assets, and cash flows (if the financial statements are required to include a statement of cash
	flows) of the registrant as of, and for, the periods presented in this report;
4.	The registrant's other certifying officer(s) and I are responsible for establishing and maintaining
	disclosure controls and procedures (as defined in rule 30a-3(c) under the Investment Company Act
	of 1940) and internal control over financial reporting (as defined in Rule 30a-3(d) under the
	Investment Company Act of 1940) for the registrant and have:
	(a)	Designed such disclosure controls and procedures, or caused such disclosure controls and
		procedures to be designed under our supervision, to ensure that material information relating to
		the registrant, including its consolidated subsidiaries, is made known to us by others within those
		entities, particularly during the period in which this report is being prepared;
	(b)	Designed such internal control over financial reporting, or caused such internal control over
		financial reporting to be designed under our supervision, to provide reasonable assurance
		regarding the reliability of financial reporting and the preparation of financial statements for
		external purposes in accordance with generally accepted accounting principles;
	(c)	Evaluated the effectiveness of the registrant's disclosure controls and procedures and presented in
		this report our conclusions about the effectiveness of the disclosure controls and procedures, as of
		a date within 90 days prior to the filing date of this report based on such evaluation; and
	(d)	Disclosed in this report any change in the registrant’s internal control over financial reporting that
		occurred during the second fiscal quarter of the period covered by this report that has materially
		affected, or is reasonably likely to materially affect, the registrant’s internal control over financial
		reporting; and
5.	The registrant's other certifying officer(s) and I have disclosed to the registrant's auditors and the
	audit committee of the registrant's board of directors (or persons performing the equivalent
	functions):
	(a)	All significant deficiencies and material weaknesses in the design or operation of internal control
		over financial reporting which are reasonably likely to adversely affect the registrant's ability to
		record, process, summarize, and report financial information; and
	(b)	Any fraud, whether or not material, that involves management or other employees who have a
		significant role in the registrant's internal control over financial reporting.

Date:	July 16, 2010	/s/ Edward C. Bernard
		Edward C. Bernard
		Principal Executive Officer

CERTIFICATIONS 

I, Gregory K. Hinkle, certify that:
1.	I have reviewed this report on Form N-CSR of T. Rowe Price GNMA Fund;
2.	Based on my knowledge, this report does not contain any untrue statement of a material fact or omit
	to state a material fact necessary to make the statements made, in light of the circumstances under
	which such statements were made, not misleading with respect to the period covered by this report;
3.	Based on my knowledge, the financial statements, and other financial information included in this
	report, fairly present in all material respects the financial condition, results of operations, changes in
	net assets, and cash flows (if the financial statements are required to include a statement of cash
	flows) of the registrant as of, and for, the periods presented in this report;
4.	The registrant's other certifying officer(s) and I are responsible for establishing and maintaining
	disclosure controls and procedures (as defined in rule 30a-3(c) under the Investment Company Act
	of 1940) and internal control over financial reporting (as defined in Rule 30a-3(d) under the
	Investment Company Act of 1940) for the registrant and have:
	(a)	Designed such disclosure controls and procedures, or caused such disclosure controls and
		procedures to be designed under our supervision, to ensure that material information relating to
		the registrant, including its consolidated subsidiaries, is made known to us by others within those
		entities, particularly during the period in which this report is being prepared;
	(b)	Designed such internal control over financial reporting, or caused such internal control over
		financial reporting to be designed under our supervision, to provide reasonable assurance
		regarding the reliability of financial reporting and the preparation of financial statements for
		external purposes in accordance with generally accepted accounting principles;
	(c)	Evaluated the effectiveness of the registrant's disclosure controls and procedures and presented in
		this report our conclusions about the effectiveness of the disclosure controls and procedures, as of
		a date within 90 days prior to the filing date of this report based on such evaluation; and
	(d)	Disclosed in this report any change in the registrant’s internal control over financial reporting that
		occurred during the second fiscal quarter of the period covered by this report that has materially
		affected, or is reasonably likely to materially affect, the registrant’s internal control over financial
		reporting; and
5.	The registrant's other certifying officer(s) and I have disclosed to the registrant's auditors and the
	audit committee of the registrant's board of directors (or persons performing the equivalent
	functions):
	(a)	All significant deficiencies and material weaknesses in the design or operation of internal control
		over financial reporting which are reasonably likely to adversely affect the registrant's ability to
		record, process, summarize, and report financial information; and
	(b)	Any fraud, whether or not material, that involves management or other employees who have a
		significant role in the registrant's internal control over financial reporting.

Date:	July 16, 2010	/s/ Gregory K. Hinkle
		Gregory K. Hinkle
		Principal Financial Officer

EX-99.906 CERT

Item 12(b).
CERTIFICATION UNDER SECTION 906 OF SARBANES-OXLEY ACT OF 2002
Name of Issuer: T. Rowe Price GNMA Fund
In connection with the Report on Form N-CSR for the above named Issuer, the undersigned hereby
certifies, to the best of his knowledge, that:
1.	The Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities
	Exchange Act of 1934;
2.	The information contained in the Report fairly presents, in all material respects, the financial
	condition and results of operations of the Issuer.
Date: July 16, 2010		/s/ Edward C. Bernard
		Edward C. Bernard
		Principal Executive Officer
Date: July 16, 2010		/s/ /s/ Gregory K. Hinkle
		Gregory K. Hinkle
		Principal Financial Officer

EX-99.CODE ETH

CODE OF ETHICS FOR PRINCIPAL EXECUTIVE AND SENIOR FINANCIAL     

OFFICERS OF THE PRICE FUNDS     

UNDER THE SARBANES-OXLEY ACT OF 2002     

I. General Statement. This Code of Ethics (the “Price Funds S-O Code”) has been designed 

to bring the Price Funds into compliance with the applicable requirements of the Sarbanes-Oxley 

Act of 2002 (the “Act”) rules promulgated by The Securities and Exchange Commission 

thereunder (“Regulations”). The Price Funds S-O Code applies solely to the Principal 

Executive Officer, Principal Financial Officer, Principal Accounting Officer or Controller of, or 

persons performing similar functions for, a Price Fund (whether such persons are employed by a 

Price Fund or third party) (“Covered Officers”). The “Price Funds” shall include each mutual 

fund that is managed, sponsored and distributed by affiliates of T. Rowe Price Group, Inc. 

(“Group”). The investment managers to the Price Funds will be referred to as the “Price Fund 

Advisers.” A list of Covered Officers is attached as Exhibit A. 

The Price Fund Advisers have, along with their parent, T. Rowe Price Group, Inc. (“Group”) 

also maintained a comprehensive Code of Ethics and Conduct (the “Group Code”) since 1972, 

which applies to all officers, directors and employees of the Price Funds, Group and its affiliates. 

As mandated by the Act, Group has adopted a Code (the “Group S-O Code”), similar to the 

Price Funds S-O Code, which applies solely to its principal executive and senior financial 

officers. The Group S-O Code and the Price Funds S-O Code will be referred to collectively as 

the “S-O Codes”. 

The Price Funds S-O Code has been adopted by the Price Funds in accordance with the Act and 

Regulations thereunder and will be administered in conformity with the disclosure requirements 

of Item 2 of Form N-CSR. The S-O Codes are attachments to the Group Code. In many respects 

the S-O Codes are supplementary to the Group Code, but the Group Code is administered 

separately from the S-O Codes, as the S-O Codes are from each other. 

II. Purpose of the Price Funds S-O Code. The purpose of the Price Funds S-O Code, as 

mandated by the Act and the Regulations, is to establish standards that are reasonably designed 

to deter wrongdoing and to promote: 

             Ethical Conduct. Honest and ethical conduct, including the ethical handling of actual or 

             apparent conflicts of interest between personal and professional relationships. 

             Disclosure. Full, fair, accurate, timely and understandable disclosure in reports and 

             documents that the Price Funds file with, or submit to, the SEC and in other public 

             communications made by the Price Funds. 

             Compliance. Compliance with applicable governmental laws, rules and regulations. 

             Reporting of Violations. The prompt internal reporting of violations of the Price Funds 

             S-O Code to an appropriate person or persons identified in the Price Funds S-O Code. 

             Accountability. Accountability for adherence to the Price Funds S-O Code. 

III. Covered Officers Should Handle Ethically Actual and Apparent Conflicts of Interest. 

Overview. Each Covered Officer owes a duty to the Price Funds to adhere to a high standard of 

honesty and business ethics and should be sensitive to situations that may give rise to actual as 

well as apparent conflicts of interest. 

A “conflict of interest” occurs when a Covered Officer’s private interest interferes with the 

interests of, or his or her service to, the Price Funds. For example, a conflict of interest would 

arise if a Covered Officer, or a member of his or her family, receives improper personal benefits 

as a result of his or her position with a Price Fund. 

Certain conflicts of interest covered by the Price Funds S-O Code arise out of the relationships 

between Covered Officers and the Price Funds and may already be subject to provisions 

regulating conflicts of interest in the Investment Company Act of 1940 (“Investment Company 

Act”), the Investment Advisers Act of 1940 (“Investment Advisers Act”) and the Group Code. 

For example, Covered Officers may not individually engage in certain transactions (such as the 

purchase or sale of securities or other property) with a Price Fund because of their status as 

“affiliated persons” of a Price Fund. The compliance programs and procedures of the Price 

Funds and Price Fund Advisers are designed to prevent, or identify and correct, violations of 

these provisions. 

Although typically not presenting an opportunity for improper personal benefit, conflicts arise 

from, or as a result of, the contractual relationship between a Price Fund and its Price Fund 

Adviser (and its affiliates) of which the Covered Officers may also be officers or employees. As 

a result, the Price Funds S-O Code recognizes that the Covered Officers will, in the normal 

course of their duties (whether formally for the Price Funds or for the Price Fund Advisers, or for 

both), be involved in establishing policies and implementing decisions which will have different 

effects on these entities. The participation of the Covered Officers in such activities is inherent 

in the contractual relationship between each Price Fund and its respective Price Fund Adviser. 

Such participation is also consistent with the performance by the Covered Officers of their duties 

as officers of the Price Funds and, if consistent with the provisions of the Investment Company 

Act and the Investment Advisers Act, it will be deemed to have been handled ethically. 

Other conflicts of interest are covered by the Price Funds S-O Code, even if these conflicts of 

interest are not addressed by or subject to provisions in the Investment Company Act and the 

Investment Advisers Act. 

Whenever a Covered Officer is confronted with a conflict of interest situation where he or she is 

uncertain as to the appropriate action to be taken, he or she should discuss the matter with the 

Chairperson of Group’s Ethics Committee or another member of the Committee. 

Handling of Specific Types of Conflicts. Each Covered Officer (and close family members) 

must not: 

              Entertainment. Accept entertainment from any company with which any Price 

              Fund or any Price Fund Adviser has current or prospective business dealings, 

              including portfolio companies, unless such entertainment is in full compliance 

              with the policy on entertainment as set forth in the Group Code. 

              Gifts. Accept any gifts, except as permitted by the Group Code. 

               Improper Personal Influence. Use his or her personal influence or personal 

               relationships improperly to influence investment decisions, brokerage allocations 

               or financial reporting by the Price Funds to the detriment of any one or more of 

               the Price Funds. 

               Taking Action at the Expense of a Price Fund. Cause a Price Fund to take 

               action, or fail to take action, for the personal benefit of the Covered Officer rather 

               than for the benefit of one or more of the Price Funds. 

               Misuse of Price Funds’ Transaction Information. Use knowledge of portfolio 

               transactions made or contemplated for a Price Fund or any other clients of the 

               Price Fund Advisers to trade personally or cause others to trade in order to take 

               advantage of or avoid the market impact of such portfolio transactions. 

               Outside Business Activities. Engage in any outside business activity that 

               detracts from a Covered Officer’s ability to devote appropriate time and attention 

               to his or her responsibilities to a Price Fund. 

               Service Providers. Excluding Group and its affiliates, have any ownership 

               interest in, or any consulting or employment relationship with, any of the Price 

               Funds’ service providers, except that an ownership interest in public companies is 

               permitted 

               Receipt of Payments. Have a direct or indirect financial interest in commissions, 

               transaction charges, spreads or other payments paid by a Price Fund for effecting 

               portfolio transactions or for selling or redeeming shares other than an interest 

               (such as compensation or equity ownership) arising from the Covered Officer’s 

               employment by Group or any of its affiliates. 

               Service as a Director or Trustee. Serve as a director, trustee or officer of any 

               public or private company or a non-profit organization that issues securities 

               eligible for purchase by any of the Price Funds, unless approval is obtained as 

               required by the Group Code. 

IV. Covered Officers’ Specific Obligations and Accountabilities.   

               A. Disclosure Requirements and Controls. Each Covered Officer must 

               familiarize himself or herself with the disclosure requirements (Form N-1A registration 

               statement, proxy (Schedule 14A), shareholder reports, Forms N-SAR, N-CSR, etc.) 

               applicable to the Price Funds and the disclosure controls and procedures of the Price 

               Fund and the Price Fund Advisers. 

               B. Compliance with Applicable Law. It is the responsibility of each Covered 

               Officer to promote compliance with all laws, rules and regulations applicable to the Price 

               Funds and the Price Fund Advisers. Each Covered Officer should, to the extent 

               appropriate within his or her area of responsibility, consult with other officers and 

               employees of the Price Funds and the Price Fund Advisers and take other appropriate 

               steps with the goal of promoting full, fair, accurate, timely and understandable disclosure 

               in the reports and documents the Price Funds file with, or submit to, the SEC, and in 

               other public communications made by the Price Funds. 

               C. Fair Disclosure. Each Covered Officer must not knowingly misrepresent, or 

               cause others to misrepresent, facts about a Price Fund to others, whether within or 

               outside the Price organization, including to the Price Fund’s directors and auditors, and 

               to governmental regulators and self-regulatory organizations. 

               D. Initial and Annual Affirmations. Each Covered Officer must:

                     1. Upon adoption of the Price Funds S-O Code (or thereafter, as applicable, upon 

                     becoming a Covered Officer), affirm in writing that he or she has received, read, 

                     and understands the Price Funds S-O Code. 

                     2. Annually affirm that he or she has complied with the requirements of the Price 

                     Funds S-O Code. 

               E. Reporting of Material Violations of the Price Funds S-O Code. If a 

               Covered Officer becomes aware of any material violation of the Price Funds S-O Code 

               or laws and governmental rules and regulations applicable to the operations of the 

               Price Funds, he or she must promptly report the violation (“Report”) to the Chief 

               Legal Counsel of the Price Funds (“CLC”). Failure to report a material violation will 

               be considered itself a violation of the Price Funds S-O Code. The CLC is identified in 

               the attached Exhibit B. 

               It is the Price Funds policy that no retaliation or other adverse action will be taken 

               against any Covered Officer or other employee of a Price Fund, a Price Fund Adviser 

               or their affiliates based upon any lawful actions of the Covered Officer or employee 

               with respect to a Report made in good faith. 

               F. Annual Disclosures. Each Covered Officer must report, at least annually, all 

               affiliations or other relationships as called for in the “Annual Questionnaire for 

               Executive Officers and/or Employee Directors/Trustees of Group and the Price Funds.” 

V. Administration of the Price Funds S-O Code. The Ethics Committee is responsible for 

administering the Price Funds S-O Code and applying its provisions to specific situations in 

which questions are presented. 

               A. Waivers and Interpretations. The Chairperson of the Ethics Committee has 

               the authority to interpret the Price Funds S-O Code in any particular situation and to 

               grant waivers where justified, subject to the approval of the Joint Audit Committee of 

               the Price Funds. All material interpretations concerning Covered Officers will be 

               reported to the Joint Audit Committee of the Price Funds at its next meeting. Waivers, 

               including implicit waivers, to Covered Officers will be publicly disclosed as required 

               in the Instructions to N-CSR. Pursuant to the definition in the Regulations, an implicit 

               waiver means a Price Fund’s failure to take action within a reasonable period of time 

               regarding a material departure from a provision of the Price Funds S-O Code that has 

               been made known to an “executive officer” (as defined in Rule 3b-7 under the 

               Securities Exchange Act of 1934) of a Price Fund. An executive officer of a Price 

               Fund includes its president and any vice-president in charge of a principal business 

               unit, division or function. 

               B. Violations/Investigations. The following procedures will be followed in 

               investigating and enforcing the Price Funds S-O Code: 

                     1. The CLC will take or cause to be taken appropriate action to 

                     investigate any potential or actual violation reported to him or her. 

                     2. The CLC, after consultation if deemed appropriate with Outside 

                     Counsel to the Price Funds, will make a recommendation to the 

                     appropriate Price Funds Board regarding the action to be taken with 

                     regard to each material violation. Such action could include any of the 

                     following: a letter of censure or suspension, a fine, a suspension of trading 

                     privileges or termination of officership or employment. In addition, the 

                     violator may be required to surrender any profit realized (or loss avoided) 

                     from any activity that is in violation of the Price Funds S-O Code. 

VI. Amendments to the Price Funds S-O Code. Except as to the contents of Exhibit A and 

Exhibit B, the Price Funds S-O Code may not be materially amended except in written form, 

which is specifically approved or ratified by a majority vote of each Price Fund Board, including 

a majority of the independent directors on each Board. 

VII. Confidentiality. All reports and records prepared or maintained pursuant to the Price 

Funds S-O Code will be considered confidential and shall be maintained and protected 

accordingly. Except as otherwise required by law, the Price Funds S-O Code or as necessary in 

connection with regulations under the Price Funds S-O Code, such matters shall not be disclosed 

to anyone other than the directors of the appropriate Price Fund Board, Outside Counsel to the 

Price Funds, members of the Ethics Committee and the CLC and authorized persons on his or 

her staff. 

Preparation Date: 9/30/03 

Adoption Date:     10/22/03

Exhibit A 

Persons Covered by the Price Funds S-O Code of Ethics 

Edward C. Bernard, Chairman and Chief Executive Officer 

Gregory K. Hinkle, Treasurer and Chief Financial Officer 

Exhibit B 

David Oestreicher, Chief Legal Counsel to the Price Funds