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Money Markets
Interest and Discount
  Foreign Exchange  



Money Markets: Fundamentals

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As well as the credit quality of the issuers themselves, different types of security have inherent risk and return characteristics by virtue of the type of issuer implicit in the security’s definition. These differences are reflected in the yield spread between competing paper.

Regular issues of Treasury bills backed by central government have the lowest default risk, creating the deepest market segment of homogeneous, highly liquid paper - with consequently the lowest yield. This is because governments’ are generally assumed to have a very low default risk.

Bankers' Acceptances are also very safe investments as they carry the obligation to honour payment by both a corporate and a bank, and in addition, because they usually represent a business transaction with specific underlying goods.

Certificates of Deposit, honoured by a single bank, generally trade a few basis points higher, but this can only be a generalisation as the market segment is itself tiered; the range of names issuing resulting in different credit and liquidity premiums.

The Commercial Paper segment presents the greatest degree of tiering. Prime grade CP generally trades a few basis points over CDs, but again, some corporates are perceived as being more creditworthy than some banks. Medium grade CP offers the highest yields to attract investors.

A distinct market

The ability of borrowers and lenders to choose between alternative money market instruments results in a close relationship between the return offered by those different instruments.

So although, technically, a money market is a collection of markets for several distinct instruments - the interrelationship between these various forms of short-term debt finance create a distinct market. This market's primary use is what is known as, liquidity management. Let's see what it is.


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