1203AFE Lecture Notes - Lecture 5: Interest, Interbank, Underwriting
30 May 2018
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Week 5 Money, Bank and Finance Lecture Notes
Topic 4: Money Markets
Role of the Money Markets
• Money markets are a collection of markets each trading a different short term
financial security
• Trading takes place over-the-counter (OTC) according to particular conventions
• The trading is facilitated by dealers who stand ready to offer buy/sell quotes to
potential customers
• It is interesting to note that if the two parties agree to disregard the usual
conventions, they are free to do so
• Money markets are wholesale markets where trades are typically valued at more
than $1 million.
• Trasatios o the oe arkets are alled ope arket trasatios eause of
their impersonal and competitive nature. There are no established customer
relationships.
• Settleet usuall takes plae through the learighouse Australear or the ‘BAs
Information and Transfer System (RITS).
• Generally, it is an OTC market.
• The most important economic function performed by money markets is the
facilitation of liquidity management.
• Money markets allow economic units to manage the mismatches that occur
between cash payments and cash receipts.
Money Market Instruments
• The characteristics of money market instruments are as follows:
o Low default risk.
o High marketability/liquidity.
o Large denominations.
o Low per-dollar transaction costs.
Why do they have these characteristics?
• First, because investors are looking for safe, short-term investments, money market
instruments are issued by economic units with the highest credit standing.
• Second, temporary investments need to be very marketable in case the money is
needed unexpectedly.
• Third, it only costs approx. $.5 i fees to trade a lie of seurities i Australear…
this could be a transaction worth up to $100 billion!
Types of Money Market Instruments
• T-Notes
• The cash market
• Repurchase agreements
• Commercial paper
• Negotiable Certificates of deposit
• Bank Accepted Bills
find more resources at oneclass.com
find more resources at oneclass.com
T-Notes
• Treasury notes are issued to finance the operations of the Commonwealth
government.
• T-notes issued recently have had maturities of one year or less.
• Because of government surpluses, no T-notes have been issued in recent years (8
Oct 2003 – 5 March 2009).
• $12.5 billion on issue as at June 2012.
• $2 billion on issue as at 3rd April 2017
Bidding For T-Notes
• T-notes are auctioned by the Australian Office of Financial Management.
• Bids, usually by large investors, are submitted competitively.
• The bid with the lowest yield is accepted first.
• Yield is the annual rate of return on an investment expressed as a percentage.
• Any remaining T-notes are sold to subsequent bidders.
Who Holds T-Notes
Pricing T-Notes
• The price of a T-note is the present value of the cash flows generated by it.
• Before we can apply the present value formula to the T-otes ash flos, e eed
to understand the nature of these cash flows.
• Fortunately, this is easy as a T-note is usually just a single sum received at a fixed
point in the future.
• Time Value of Money:
o Because people would rather consume goods sooner rather than later, a
dollar today is worth more than a dollar in the future.
o If you have a dollar today, you can invest it and earn interest. The further the
dollar is received in the future, the less it is worth because people prefer to
consume today.
o Australian T-notes are priced the same method as the bank bill formula.
• T-Notes are sold on a discount basis and pay no coupons:
• Where:
o P = price today
o F = face value at maturity
o Y = simple interest rate per year
o n = number of days to maturity
• This is the same formula to value a bank bill
365
1
n
y
F
P
+
=
find more resources at oneclass.com
find more resources at oneclass.com
Document Summary
Week 5 money, bank and finance lecture notes. There are no established customer relationships: settle(cid:373)e(cid:374)t usuall(cid:455) takes pla(cid:272)e through the (cid:272)leari(cid:374)ghouse austra(cid:272)lear or the ba(cid:859)s. Money market instruments: the characteristics of money market instruments are as follows, low default risk, high marketability/liquidity, large denominations, low per-dollar transaction costs. . (cid:1006)5 i(cid:374) fees to trade a (cid:858)li(cid:374)e(cid:859) of se(cid:272)urities i(cid:374) austra(cid:272)lear this could be a transaction worth up to billion! Types of money market instruments: t-notes, the cash market, repurchase agreements, commercial paper, negotiable certificates of deposit, bank accepted bills. T-notes: treasury notes are issued to finance the operations of the commonwealth government, t-notes issued recently have had maturities of one year or less, because of government surpluses, no t-notes have been issued in recent years (8. Oct 2003 5 march 2009): . 5 billion on issue as at june 2012, billion on issue as at 3rd april 2017.
