Chapter 7 Money Markets 1. Treasury Bills Pricing of Treasury Bills: – Treasury bills are priced...

Chapter 7

Money Markets

1

Treasury Bills

• Pricing of Treasury Bills:

– Treasury bills are priced on a bond-equivalent yield basis. The bond-equivalent yield, YBE, is the annualized difference between the face value and the purchase price of the bill.

2 Dr. Hisham Handal Abdelbaki - FIN 221 - Chapter 7

Dr. Hisham Handal Abdelbaki - FIN 221 - Chapter 73

%100365

0

0

nP

PPfybe

)

365(1

0n

ybe

PfP

1- the formula for the bond equivalent yield (ybe) :

Where Pf is the face price, P0 is the purchase price and n is the number of days to maturity.

2- the formula for purchase price on bond equivalent yield basis:


Example 1 :You are given the following data:Face price = 10,000, buying price = 9760, days to maturity = 100. what is the yield on a bond – equivalent basis?

SolutionYBE = [(Face Value - Price)/Price] x [(365/Days to Maturity) ] x 100%

YBE = [(10000 – 9760) / 9760] [365 / 100] [100%] = (0.025 )(3.65)(100%) = 8.9%


Example 2:

You are given the following data:Face price = 10,000, days till maturity = 91 and yield = 8.19%. what is buying price on a bond – equivalent basis?

SolutionPrice = [face price] / [1 + (YBE * days to Maturity / 365)

= 10000 / 1.0204

= 9800

Class workIn example 1, assume the purchase price is unknown and calculate it by using other information.

Repurchase Agreements (Repos)

• Repo is the sale of a short-term security (collateral) and buying it back in the future at a predetermined (higher) price.

• Reverse Repo is the purchase of a short-term security (collateral) and selling it back in the future a predetermined (higher) price.

• Repos and reveres repos are just opposite sides of the same transaction.

• Repos are used by the Federal Reserve in open market operations.



nP

Pepoyrepo

360

0

0Pr

The formula for the repo yield (yrepo) or interest rate is:

Where Prepo = repurchase price of the security, which equals the selling price plus interest.

P0 = sale price of the securityN = number of days to maturity

Commercial Papers• Characteristics of Commercial Papers

– Maturity up to 270 days

– Unsecured securities issued by high-quality borrowers, but backed by lines of credit from banks to support or guarantee quality.

– Large denominations - $100,000 and up

– Sold at a discount from par



1- the formula for the bond equivalent yield (ybe) :

Where Pf is the face price, P0 is the purchase price and n is the number of days to maturity.

2- the formula for purchase price on bond equivalent yield basis:

%100365

0

0

nP

PPfybe

)

365(1

0n

ybe

PfP

Creating a Banker's Acceptance

• Importer wants to make a purchase from foreign exporter, payable in the future.

• Importer needs financing; exporter needs guarantee of payment in future.

• Importer's bank writes a letter of credit for exporter that specifies purchase order and authorizes exporter to draw time draft on bank.

• Exporter draws the draft on the importer's bank and collect its money.

• The importer’s bank accepts the draft and creates a banker's acceptance.


The Sequence of a Banker’s Acceptance Transaction

U.S. Bank Foreign Bank

U.S. Buyerof Coffee

ForeignExporter of

Coffee

1. R

eque

st f

or L

ette

r of

Cre

dit

2. Letter of Credit a

nd Authorization for a Draft

4. M

oney

3. A

utho

rize

d dr

aft t

oU

.S. b

ank

6. Money

7. M

oney

5. Draft and shipping documents


Chapter 7 Money Markets 1. Treasury Bills Pricing of Treasury Bills: – Treasury bills are priced...

Documents

Transcript of Chapter 7 Money Markets 1. Treasury Bills Pricing of Treasury Bills: – Treasury bills are priced...