international money market instruments

8/2/2019 International Money Market Instruments

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INTERNATIONALMONEY MARKETS



International Monetary System

It involves the management of threeprocesses

(I) the adjustment of balance of payments

positions, including the establishment andalteration of exchange rates;

(2) the financing of payments imbalancesamong countries by the use of credit or

reserves; and

(3) the provision of international money (reserves).



International Money Market Instruments

Treasury Bills

Commercial papers

Banker’s acceptance

Certificate of deposits Repurchase agreements



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Treasury Bills - short-term obligations issued by the U.S.government

Commercial Paper - short-term unsecured promissory notes issued by a company to raise short-term cash

Banker Acceptances - time draft payable to seller of goods, with payment guaranteed by a bank

Negotiable Certificates of Deposit - negotiable bank-issued time deposit with specified interest rate and maturity

Repurchase Agreements - agreement involving the saleof securities between parties with a promise to repurchasethe security at a specific date and price



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Instrument

Treasury bills

Repurchase agreement

Commercial Paper

Negotiable CDs

Banker’s acceptances

Principal Issuer

U.S. Treasury

FRS; Comm banks;Brokers and dealers;

Other FIs

Comm banks

Other FIs; Corps

Commercial banks

Commercial banks

Principal Investor

FRS; Comm banks;

Brokers and dealers;

Other FIs; Corp’s

FRS, Comm banksBrokers and dealers

Other FIs, Corp’s

Brokers and dealers

Corporations

Brokers and dealers;Corps; Other FIs

Comm banks; Corp’s;

Brokers and dealers



Methods of calculating yields5-6

• Treasury Bills - discount yield, 360 day basis. Also as bond

equivalent basis using 365 day basis

• Repurchase Agreements - bond equivalent basis, 360 day basis

• Commercial Paper - discount yield, 360 day basis

• Negotiable Certificates of Deposit - discount yield, 360 day

basis

• Banker Acceptances - discount yield, 360 day basis



Treasury Bill Basics 5-7

Issued by the U.S. Treasury to covergovernment budget deficits and to refinancematuring debt

Standard Original Maturities of 13 weeks, 26 weeks, or 52 weeks

Denominations are $1,000 but typical round lot is $5 million

Virtually default risk free



The Auction Process for T-bills 5-8

Amount of new 13-week and 26-week T-bills offeredannounced weekly

Bids submitted by government securities dealers,financial and nonfinancial corporations andindividuals

Individual competitive bidders limited to 35% totalissue size, can submit more than one bid, allocationsmade beginning with highest bidder

Noncompetitive bidders indicate quantity desired andagree to pay a weighted-average of the rate on winningcompetitive bids; get preferential allocation



The Secondary Market for T-bills 5-9

The largest of any U.S. money market security

Approximately 30 financial institutions “make” amarket in T-bills by buying and selling securities

for their own accounts and by trading for theircustomers, including depository institutions,insurance companies, pensions funds, etc.

T- bills are the FOMC’s instrument of choice for its

open market operations



T-bill Rates and Yields 5-10

No interest paid on T-bills (coupon rate iszero), issued at a discount from their par (orface) value

T-bill rates are quoted in Wall Street Journal

Discount Yield the price dealers are willing to pay T-bill holders to

purchase their T-bills for them

Asked the discount yield based on the current purchase price set

by dealers that is available to investors

Spread the percentage difference in the ask and bid yield; part of

transaction cost; the profit for dealers



Repurchase Agreements (RPs or Repos) 5-11

An agreement involving the sale of securities by one party to another with a promise torepurchase the securities at a specified priceon a specified date

Essentially a collateralized fed funds loan withcollateral in the form of securities (e.g. T-billsand Fannie Mae securities)

Reverse repurchase agreement involves the purchase of securities between parties with

the promise to sell them back at a given date in thefuture



Trading Process for Repurchase

Agreements

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Arranged either directly between two parties or with the help of brokers and dealers

The repo buyer arranges to purchase T-bills fromthe repo seller with an agreement that the seller

will repurchase the T-bills within a stated periodof time



Commercial Paper 5-13

An unsecured short-term promissory note issued by a corporation to raise short-term cash, often tofinance working capital requirements

The largest (in terms of dollar value) of the money market instruments

Generally sold in denominations of $100,000,$250,000, $500,000 and $1 million withmaturities of 1-270 days (if maturity is greaterthan 270 days, SEC requires registration)

Generally held until maturity so there is not anactive secondary market



Trading Process for Commercial

Paper

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CPs are sold either directly to investors (25%) orindirectly through brokers and dealers such as

investment banks or major bank subsidiaries Selling through brokers more expensive for issuer

due to underwriting costs



Negotiable Certificates of Deposits 5-15

A bank-issued time deposit that specifies aninterest rate and maturity date and is negotiablein the secondary market

Bearer Instrument whoever holds the CD when it matures receives the

principal and interest

Denominations range from $100,000 to $10

million; $1 million being the most common Often purchased by money market mutual funds

with pools of funds from individual investors



Trading Process for NCDs 5-16

Banks issuing NCDs post daily rates for themore popular maturities and subject tofunding needs, tries to sell to investors whoare likely to hold them as investments ratherthan sell them to the secondary market

In some cases, the bank and investor negotiatethe size, rate and maturity

Secondary market consists of a linked network of approximately 15 brokers and allowsinvestors to buy existing CD’s rather than new issues



Banker’s Acceptances 5-17

A time draft payable to a seller of goods withpayment guaranteed by a bank

Arise from international trade transactions and are

used to finance trade in goods that have yet to beshipped from a foreign exporter (seller) to adomestic importer (buyer)

Foreign exporters prefer that banks act as

guarantors for payment before sending goods toimporter



International Aspects of Money Markets 5-18

While U.S. money markets are the largest, theinternational market is growing U.S. securities bought/sold by foreign investors

foreign money market securities

Euro money market instruments

Eurodollar deposits, Eurodollar CDs, Euro notes, Euro CP

London Interbank Offered Rate (LIBOR)

the rate paid on Eurodollars

international money market instruments

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