1. All Rights ReservedDr David P Echevarria1 CHAPTER 6 MONEY MARKETS

2. All Rights Reserved Dr David P Echevarria 2 MONEY MARKET SECURITIES  Treasury Bills  Weekly auctions by sealed bid Competitive, Noncompetitive Sold at Discount  Very large and liquid secondary market  Computing Annualized Yield (365 day year): Y T = [ (SP – PP) / PP ] * 365 / n  Where: SP = sell price, PP = Purchase price, n = number of days held  Computing the Discount: TBD = [ (Par – PP) / Par ] * 360 / n  Interest exempt from state and local taxes

3. All Rights Reserved Dr David P Echevarria 3 MONEY MARKET SECURITIES  Commercial Paper  For most creditworthy companies  100 to 150 basis points less than the prime  No secondary market (mostly direct placement)  Yield computed the same way as T-Bills  Max maturity 270 days

4. All Rights Reserved Dr David P Echevarria 4 MONEY MARKET SECURITIES C.Negotiable Certificates of Deposit (NCD)  Large dollar amount certificates designed to be negotiable  Specialized secondary market  YNCD = (SP – PP + Interest) / PP.  Banker's Acceptances  Finance import activity  Products form the collateral for the BA  Rates quoted in WSJ and elsewhere

5. All Rights Reserved Dr David P Echevarria 5 MONEY MARKET SECURITIES E. Repurchase Agreements (repo)  Underlying instrument is a treasury bill or bond  Contracts designed for very short periods of investment F. Federal Funds  The market for lending excess reserves, frequently over-night  Some funds lent by the Federal Reserve on an over- night basis

6. All Rights Reserved Dr David P Echevarria 6 MONEY MARKET SECURITIES G. Comparison of Money Market Securities  Most liquid are T-Bills  Best yields are from BA's  Money Market funds will have all in their portfolio H. Institutional Use of Money Market Securities  Provide method for investors to keep excess cash balances working  Provide a method for limiting interest rate risk  Provide an additional investment vehicle for portfolios

7. All Rights Reserved Dr David P Echevarria 7 FOREIGN FINANCIAL MARKETS  Eurodollar Deposits and Euro notes  Foreign deposits denominated in dollars  Notes issued in European financial markets but denominated in dollars  Euro-commercial Paper  Potential hedge vehicle  Dealers provide a secondary market  Lack of Regulatory Oversight  Increased risks  Source of competitive edge for foreign banks

8. All Rights Reserved Dr David P Echevarria 8 HOMEWORK QUESTIONS  What are the 4 main types of money market instruments?  What premiums do investors extract for reduced liquidity? Increases in default risk?  Who issues commercial paper? Why is c-paper preferred to borrowing at prime?  How does the Repurchase (repo) agreement work?  Why are Fed Funds important to financial institutions?  What are Eurodollar deposits and why are they important?