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Money Market Instruments

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Money Market Instruments

money market instruments are defined asdebt instruments with a maturity of one yearor less.

Money Markets serve important functions:

Transfer Funds (savers to borrowers)

Serves as a pricing benchmark Facilitates monetary policy by allowing the FRB to

control inflation by buying and selling money marketinstruments

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Types of Instruments

Method of payment of interest

Interest bearing vs. Discount Instruments

Currency Denominations

US Dollar vs. Non-USD Instruments

Issuance Market

United States vs. the Euro Markets

Structure

Fixed-Rate vs. Floating-Rate

Nationality of Borrower

Domestic vs. Foreign

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Interest-Bearing vs. Discount

Instruments

Interest-Bearing

Referred to as Coupon Bearing

The investor pays face value and atmaturity received face value plus interest.

Discount Instruments

Purchased at a discount from face value;upon maturity the investor receives full

face value rather than interest.

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Types of Interest-Bearing

Instruments

Negotiable Certificates of Deposits

(CDs)

Issued by banks to raise short-term money.

Negotiable CDs are issued as securities

(versus CDs which are a form of deposit at

retail banks). No deposit insurance.

Typical maturity one to twelve months.

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Types of Interest-Bearing

Instruments

Three Types of CDs issued in USD:

Domestic CD: issued by a US bank in the

US for local markets. Foreign or Yankee CD: issued by a foreign

bank in the US.

Eurodollar CD: issued by a large US orforeign bank in the Euro market (an off-

shore market primarily located in London).

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Types of Interest-Bearing

Instruments

Floating-Rate CD: securities issued with

a 3 to 5 year maturity have coupons that

change (or float) based on a spreadover a benchmarked reference rate.

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Types of Interest-Bearing

Instruments

Federal Funds Market

Controlled by the Federal Reserve.

Provides overnight liquidity solutions.

The Fed requires that all depositories keep

reserves on-hand in their Federal

Reserve account. Non-Collateralized.

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Types of Interest-Bearing

Instruments

Repurchase Agreements

Institutions can also borrow/invest using

repurchase argeements or in the repomarket.

Typically overnight investments

Collateralized.

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Types of Interest-Bearing

Instruments

Interbank Markets

Bank-to-Bank borrowing.

Highly developed interbank market withinthe Euro market.

LIBOR: London Interbank Offered Rate

Unregulated Market (since it is off-shore).

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Types of Discount Instruments

Treasury Bills

US government issues:

Three- and six-month T-Bills weekly Twelve month T-Bills monthly

Three-month bill is known as the risk-free rate.

Issued through an auction processes:

Competitive bid (indicates price bidder is willing to pay). Non-Competitive bid (indicates the average price bidders

are willing to pay).

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Types of Discount Instruments

Commercial Paper

Short-term debt instrument issued by

corporations. Issued on a discount basis in maturities

ranging from one to 270 days.

Securities in this maturity range are exempt

from SEC registration requirements.

Global CP markets.

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Types of Discount Instruments

Bankers Acceptances

Form of short-term bank borrowing created by

facilitating import/export transactions. Bank provides a letter of credit to an exporter

LC guarantees payment at the end of a set periods for

goods that they have exported.

Bank sells this commitment in the money market

(making it into a security) and creating a bankers

acceptance.

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Types of Discount Instruments

Exporter Bank ImporterLC

LC guarantees payment to

Exporter Bank assumes

risk from ImporterGoods received

PaymentRecd

Payment Recd

LC