FINANCIAL SYSTEMS-Money Market Instruments
Money Market Instruments
T hey are short-term dated securities. Because of their short terms to maturity, they undergo the least price fluctuations and are therefore the least risky instruments. The following are examples of money market instruments;
i. These are shot-term debt instruments issued by the government
ii. They are issued in 3,-6,- and 12-month maturities to finance government activities
iii. They pay a set amount at maturity and have no interest payments
iv. Interest is covered by the fact that they are initially sold at a discount, that is, an amount lower than the amount they are redeemed at on maturity
v. They are the most liquid of all the money market securities because they are the most actively traded
vi. Interest rates on T-bills are usually the anchor for all other money market interest rates
vii. They re also the safest among the money market instruments because the chances of default are minimal (the government can always raise taxes or issue currency to pay off its debts)
viii. T-bills are popular due to their zero default risk, ready marketability, and high liquidity.
Types of Treasury Bills
There are several types of bills that are issued by governments:
Regular- series bills: –
i. These are issued routinely every week or month in competitive auctions
ii. They have original maturities of three months, six months and one year.
iii. New three and six month bills are auctioned weekly,; one year bills are normally sold once each month
Irregular- series bills
i. These are issued only when the Treasury has a special cash need
ii. They can be strip bills or cash management bills
iii. Strip bills- these comprise of a package offering of bills requiring investors to bid for an entire series of different bill maturities.
iv. Investors who bid successively must accept bills at their bid price each week for several weeks running
Cash Management bills
i. Consist simply of reopened issues of bills that were sold in prior weeks
ii. The reopening of a bill issue normally occurs when there is an unusual or unexpected Treasury need for cash.
How Treasury Bills are sold
i. T-bills are sold using the auction method.
ii. A new regular bill is announced weekly by the Treasury on Tuesday each week, with bids from investors being due the following Monday by 1pm.
iii. Interested investors fill out a form tendering an offer to the Treasury for a specific bill issue at a specific price.
iv. The bid forms are usually submitted through commercial banks or it can be taken to Central bank
v. The Treasury entertains both competitive and non-competitive tenders for bills
vi. Competitive tenders are typically submitted by large investors such as banks and security dealers who several million shillings worth at one time.
vii. Non-competitive tenders usually come from small investors who agree to accept the average price set in the weekly or monthly bill auction
viii. Non competitive bidders must pay the full par –value price of the bill at the time the tender is made and on the issue date receives the refund representing the difference between the amount paid in by the investor and the actual auction price.
ix. Generally, the Treasury fills all non-competitive tenders for bills.
x. For the competitive bills, the highest bidder receives bills and those who bid lower also receive theirs until all available securities have been allocated.
xi. The lowest price at which at least some bills are awarded is called the stop-out price.
2.Negotiable Bank Certificates of Deposit:
A certificate of deposit (CD) is
i. a debt instrument sold by a bank to depositors
ii. it pays annual interest of a given amount and at maturity pays back the original purchase price
iii. The interest rate on a large CD is set by negotiation between the issuing institution and its customer and it generally reflects the prevailing market conditions.
iv. Negotiable CDs may be registered on the books of the issuing depository institution or issued in bearer form to the purchasing investor.
v. Bearer CDs are easier to trade on secondary markets
vi. Interest rates in the CD market are computed as a yield to maturity but are quoted on a 360 day basis, except in the secondary trading market where the bank discount rate is used as a measure of CD yields.