2. Part IV
Financial Markets

3. Chapter Eight
The Money Markets

4. The Money Markets Money Markets Defined
Money market securities are usually sold in large denominations
They have low default risk
They mature in one year or less from their issue date

5. Purpose of Money Markets
Investors in Money Market: Provides a place for warehousing surplus funds for short periods of time
Borrowers from money market provide low-cost source of temporary funds

6. Interest Rates Available on Several Money Market Instruments

7. Participants in Money Markets
U.S. Treasury Department
Federal Reserve System
Commercial Banks
Businesses
Investment and Securities Firms
Individuals (mostly through money market mutual funds)

8. Money Market Instruments
Treasury Bills
Federal Funds
Repurchase Agreements
Negotiable Certificates of Deposit
Commercial Paper
Banker’s Acceptance
Eurodollars

9. Treasury Bills Short-term borrowings of the federal government
Usually sold at discount

10. Discounting Example
You pay $9850 for a 91-day T-bill. It is worth $10,000 at maturity. What is its annualized yield?
(1)

11. Results of a Treasury Auction

12. Figure 8-1: Treasury Bill Interest Rate and the Inflation Rate, January 1973–January 2002
Current inflation statistics ftp://ftp.bls.gov/pub/special.requests/cpi/cpiai.txt

13. Federal Funds
Short-term funds transferred (loaned or borrowed) between financial institutions, usually for a period of one day

14. Federal Funds
Figure 8.2: Federal Funds and Treasury Bill Interest Rates, January 1990–January 2002

15. Negotiable Certificates of Deposit
A bank-issued security that documents a deposit and specifies the interest rate and the maturity date
Denominations range from $100,000 to $10 million

16. Negotiable Certificates of Deposit Comparing Interest on CDs and T-bills
Figure 8.3: Interest Rates on Negotiable Certificates of Deposit and on Treasury Bills, January 1990–January 2002

17. Commercial Paper
Unsecured promissory notes, issued by corporations, that mature in no more than 270 days

18. Commercial Paper Comparing Interest on Commercial Paper to Bank Prime Rate
Figure 8.4: Return on Commercial Paper and the Prime Rate, January 1990–January 2002

19. Banker’s Acceptances
An order to pay a specified amount to the bearer on a given date if specified conditions have been met, usually delivery of promised goods

20. Advantages to Banker’s Acceptances
Exporter paid immediately
Exporter shielded from foreign exchange risk
Exporter does not have to assess the financial security of the importer
Importer’s bank guarantees payment
Crucial to international trade

21. Eurodollars
Dollar denominated deposits held in foreign banks

22. Eurodollars London interbank bid rate (LIBID)
The rate paid by banks buying funds
London interbank offer rate (LIBOR)
The rate offered for sale of the funds
Time deposits with fixed maturities
Largest short term security in the world

23. Figure 8-6: Interest Rates on Money Market Securities, 1990–2002
Interest rates on money market instruments

24. Money Market Securities and Their Depth

25. Money Market Mutual Funds
Open-end investment funds that invest only in short-term securities
No fee for purchasing or redeeming shares
Minimum initial investment of $500 to $20,000
Check-writing privileges
No fee for writing checks
No minimum check amount
Earn 0.5% to 1% higher return than interest earned on money in the bank
Low risk of default, low rate of risk
Popular to small investors

26. Growth in Money Market Mutual Funds
Figure 8.7: Net Assets of Money Market Mutual Funds, 1975–2000

27. Money Market Fund Assets
Figure 8.8: Average Distribution of Money Market Fund Assets, 2001