2. Money Market Instruments Flashcards
What are money markets geared towards?
Short-term liquidity and providing a temporary safe haven for investment funds.
Money markets generally cover which instruments, and which maturities?
Cash and other instruments - that mature within one year of the point of issue.
Why does an interbank market exist?
Because as Banks balances with their central bank rise & fall - there is a need to borrow and lend from each other.
What are inter-bank rates?
Average rates at which banks borrow from each other.
What is SONIA?
Sterling Overnight Index Average Rate - based on unsecured overnight borrowing published by the Bank of England (BOE)
What is the US SOFR?
US Secured Overnight Financing Rate - based on overnight repo rate.
What is the Eurozone €STR?
Euro Short-Term Rate - based on previous days unsecured overnight borrowing settled through Target2.
What is SARON?
Swiss Average Rate Overnight - secured short term interest rate based on quotes in CHF repo market.
Name the two interbank rates, which are a secured overnight rate?
- US SOFR
- SARON
Name the two interbank rates, which are an unsecured overnight rate?
- SONIA
- €STR
US SOFR is a secured overnight financing rate based on what?
Borrowing collateralised by US Treasury Securities.
What is the US Fed Funds Rate?
The overnight rate at which US Banks lend money to each other
Simple short term interest rates , such as SONIA, US SOFR etc could be the basis of which kind of contract?
STIRs (Short Term Interest Rate contracts)
What is a key aspect that allows the interbank money market to operate efficiently?
Confidence
Explain why confidence is so important?
Because banks & other investors who lend funds in the short term market do so often using internal guidelines or credit limits, and therefore not a strong guarantee the borrower is creditworthy.
When there is a loss of confidence, those in need of short term funding will be impacted how?
They will need to pay a higher rate of interest, or seek funding from their respective central bank.
Explain what happened with Northern Rock?
75% of its funding was obtained by rolling over short term financing in money markets. Confidence was lost, and Northern Rock were unable to obtain funding (even when willing to pay higher rates) and it led to being nationalised by the UK government.
What is the main risk for a depositor in the money markets?
Counter-party risk - that the borrower cannot repay on maturity.
In addition to internal guidelines, and credit rating, what else is a signal of financial stability?
CDS spreads (Credit Default Swap) spreads.
Seen as a real-time, market driven estimate of the likeliness for a company, country or organisation to default.
What are Treasury Bills (T-Bills)?
Treasury Bills are the name given to short-term debt issued by governments.
In the UK , who issues T-Bills and at what frequency?
The DMO (Debt Management Office) issued weekly on behalf of the UK government.
T-Bills are generally issued with what maturities in the UK, and US?
UK - 3 & 6 months
US - 1, 3 & 6 months
T-Bills are often referred to as what?
Promissory Notes
Since they are backed by their respective governments, T-Bills are said to be a benchmark of what?
Risk-free returns, compared to other short-term money market instruments.
Do T-Bills pay a coupon?
No. They are issued at a discount to their nominal value, and redeemed at par. The discount provides the return to the investor.
Concerning T-Bills, what are the minimum denominations in £ & $?
£ - £5000
$ - $100
What is a Certificate of Deposit, and who are they usually issued by?
A time deposit offered by Banks, and other financial institutions.
What are the most common maturities for CDs?
3 & 6 months
How are CDs purchased?
They’re purchased at their par value. At maturity the investor receives the full face value and the specified interest rate.
Is it possible to sell a CD before its maturity?
Yes, although a penalty will be incurred, linked to a pre agreed interest rate.
How does the yield on a CD compare to a T-Bill?
CDs usually pay a higher yield, reflecting their slightly higher credit risk.
Can CDs be issued in any denomination?
Yes
Who issues Commercial Paper?
Large financial, and non-financial institutions
What are the usual maturities of Commercial Paper?
Usually range up to nine months.
Commercial paper is usually denominated in minimums of what?
$500,000 (or currency equivalent)
What is the largest CP market globally?
The US Market
Explain the interest paid on CP, and how is it determined?
Interest depends on market conditions, and the issuing companies credit rating.
