Chapter 5 Flashcards
Short-term obligations issued by the US government
treasury bills
Markets that trade debt securities or instruments with maturities of less than one year
money markets
Short-term funds transferred between financial institutions usually for no more than one day
federal funds
agreements involving the sale of securities by one party to another with a promise to repurchase the securities at a specified date and price
repurchase agreements
Short-term unsecured promissory notes issued by a company to raise short term cash
commercial paper
bank-issued time deposits that specify an interest rate and maturity date and are negotiable (saleable on a secondary market)
negotiable certificates of deposit
time drafts payable to a seller of goods, with payment guaranteed by a bank
banker’s acceptances
allows the US gov to raise money to meet unavoidable short-term expenditure needs prior to the receipt of tax revenues
T-bills
What makes money market instruments safe? (3)
- Low default risk
- Low interest rate risk
- Low price risk
- Discount Yield
- Single-Payment Yield
- Bond Equivalent Yield
- Effective Annual Rate
Measurements of yield
- treasury bills
- federal funds
- repurchase agreements
- commercial paper
- negotiable certificates of deposit
- banker’s acceptances
- investors
Money Market Instruments
why money markets instruments are safe?
high liquidity:
- low trading costs
- quick to buy and sell
Interest rate quoted on annual basis, assuming 360-day year, as percent of face value
Discount Yield
Interest rate quoted on annual basis, assuming 360-day year, as percent of purchase price
Single-Payment Yield
To compare to non-money market bonds (fixed income)
Bond Equivalent Yield
The risk of late or nonpayment of principal or interest.
default risk
- issued weekly (4, 8, 13, 26 week matureity)
- issued monthly (52-week maturity)
- issued electronically
- sold at a DISCOUNT
- highly liquid
- effectively zero risk
treasury bills
treasury bills Auction process: quantity, not price
- All pay the lowest price accepted by the Treasury
noncompetitive bids
(buy these treasury bills & dont care what the interest rate is)
treasury bills Auction process: quantity conditioned on price
- All pay the lowest price accepted by the Treasury
Competitive bids
(we will lend to you at this interest rate or above but not below)
T-bill auction process Limits:
Noncompetitive bids: ___
Competitive bids: ___
$5 million per person; 35% of entire auction
They break up the bills and sell to smaller investors
T-bills primary market: large institutions
- Quoted in discount yield method
- One of the largest, most liquid markets in the world
- Primary dealers use fedwire to ‘make the market’ → Fed uses these securities to influence interest rates
T bill
- quoted in single payment yield method
- Used to meet reserve requirements
- More recently used for ‘long term’ funding (when rate at 0%)
- Rate is determined by supply and demand (Heavily manipulated by the FOMC)
- fedwire
Federal Funds: Why do banks borrow from each other overnight?
- Longer than Fed Funds loans (maybe multiple weeks)
- Uses Fedwire for most transactions
Repurchase Agreements
- Buyer agrees to sell the security back at a set time and price
- Collateralized loan, effectively
Repurchase Agreements: Short term sale
An agreement involving the purchase of securities by one party from another with the promise to sell them back.
Reverse repo
___: One-day maturity repos
___: repos with longer maturities
Overnight repos; Term repos
the securities used most often as collateral in repos are: (2)
- T-bills
- government agency securities (Fannie Mae)
the loan is slightly smaller than the market value of securities pledged
what does it mean when collateral pledged in a repo has a “haircut” applied?
- <= 270 day maturity
- No secondary market
- sold in large denominations
- Discount yield
- may be rated, backed by a bank or asset
- used by corporations mostly
commercial paper
- Issued by banks
- 2 week to 52 week maturities
- Liquid secondary market (held mostly by money market funds)
- Single-Payment Yield
Negotiable Certificates of Deposit
- Time draft payable to a seller of goods
- Guaranteed by bank
- Small-to-zero secondary market (held by money market funds)
- Sold on a discounted basis
Banker’s Acceptances
- Banks
- Money Market Funds
- Federal Reserve
- Corporations
- Brokers/Dealers
Who buys money market instruments?
Unsecured, short-term loan issued by a bank or corporation in the international money market
- denominated in a currency that differs from the domestic currency of the market where it is issued
Eurocommercial Paper
The rate offered for sale on eurodollar funds → standard rate by which loan rates are now priced
LIBOR (london interbank offered rate)
Dollar-denominated deposits help offshore in US bank branches overseas and in other foreign banks are called ___ __ and the market in which they trade is called the ___ ___
Eurodollars deposits (eurodollar CDs); eurodollar market
