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“T-bills are the Government debt securities that matures in one year or less from their issue date.A treasury bill differs from other types of investments in that they do not pay interest in the traditional way. When an investor wishes to purchase a treasury bill, they buy it at a discount rate.” Concept taken from What is a Treasury Bill. The Government of Pakistan raise large portion of floating and permanent debt through the auctions of short term Government of Pakistan Market Treasury Bills (MTBs) T-bills are issued through a competitive bidding process rather than paying fixed interest payments for a price that is less than their face (par) value and when they mature; the government pays the holder the full par value. Finally, the interest is the difference between the purchase price of the security and what you get at maturity. T-bills are considered to be the safest investments, because in these Government confirms the holder of security to pay back face value. Returns are less because Treasuries are usually safe.

They are issued with the maturities of    Three-months (12-Weeks / 90-days) Six-months (24-Weeks) Twelve-months (one-year)

Default Risk-T-bills are on the guarantee of government, so they have minimum default risk. Liquidity-T-bills are highly liquid instrument of financial market. Securities can be liquidated when ever the holder wants. Minimum Denomination-T-bills are trade on the face value of Rs.100 in Pakistan and in denominations of multiples of 100.

“As we have studied earlier that T-Bills do not carry any interest rate but instead are sold at a discount from their par value or face value. Thus their yield is based on their appreciation in price between time of issue and the time they mature or are sold by the investor.
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MONEY MARKET INSTRUMENTS Bill yields are determined by the discount method. and decentralization in April 1991 then the following changes were made:    Introduce the American-style auction-based system. HOW T-BILLS ARE TRADED IN PAKISTAN? “At start. The role of primary market restrict to fortnightly auctions. Primary dealers were appointed. instead of “on tap.98) 100 x 360 90 0.” Concept taken from (Rose & Marquis 2005) .   Auction System Open Market Operations(OMO) Page 2 .” allowing for the development of a secondary market. Afterwards when the government moved to a market-based system as part of the process of economic deregulation. Treasury bills were issued on ‘tap basis’ for six months at 6 percent per year. which ignores the compounding of interest rates. and uses a 360-day year for simplicity. The Discount Rate for T-Bills can be calculated by the following formula: 360 Discount Rate = Par Value-Purchase Price Par Value x Number of Days to Maturity Explained With Example: Suppose you buy a 12 Weeks T-bill at Rs.” Information taken from (Naz Chohan 1991) State Bank of Pakistan use following two methods to trade T-bills.98 and keep it until maturity having face value of rs. disinvestment. treats the par value as the investment base. Then the discount rate on this bill can be calculated as: Dr = = (100 .100.06 This shows that for this T-bill the discount rate will be 6% .

who bid for several millions. The MTBs are sold by SBP to approved Primary Dealers through multiple price sealed bids auction. as opposed to a single price for all the accepted bids. The auctions conduct after every two weeks at Wednesday and are announced approximately one week in advance. Primary dealers. if accepted. In the auctions of treasury bills yield is not set by the central bank but the bidder. in practice the cut-off price seems to have been the main decision variable and the amount allocated bore little relation to the preannounced size. The Ministry of Finance decides on the cut-off price after seeing the bids.  The actual yield to the investor depends on the accepted bid price at each auction.  The Auction for MTBs is held under a fixed schedule on fortnightly basis. Page 3 .MONEY MARKET INSTRUMENTS PRIMARY DEALERS Only primary dealers can participate in the auctions and OMOs. Although notionally the size of the auction issue are pre-announced. If the return specified is too high. so each bid formulate in the expectation that. might not receive any securities. After the deadline for bid submission. must submit a bid that is prepared either. They have to specify the return that they want to receive. the highest competitive bidders receives bills and those who bid successively lower price also receive bills until all available securities have been awarded. the price bid would be that paid. which include commercial banks and non bank financial institutions are only allowed to submit any number of sealed price-quantity bids on their own behalf or on behalf of clients. All auctions were conducted on a discriminatory price basis. the bids open in the presence of the bidders. The Competitive bids are submitted by large investors . Each bidder at an auction gets the amount at his bid price (if accepted). • All the commercial banks (having account with SBP) • NBFIs (Non Banking Financial Institutions) If the primary dealer wants to buy a T-bill.   Non-Competitively Competitively The Non-competitive bids are normally submitted by the small investors who agree to accept the price determined by the auction. AUCTION SYSTEM “SBP is acting as an agent on behalf of the government for raising short term funds from the market. After the opening of bids.

” Information taken from (Naz Chohan 1991) TAX LIABILITY “Investors in T-bills are subject to a withholding tax. bids will open MOF deciedes the cut off price.0mln (multiples of PKR 100.0mln). Fig: Steps Involve in Auction SETTLEMENT OF BID “Settlement is normally done through book entry and securities can be issued with in one or two days after finalizing cut-off price. The marketable lot-size for MTBs will be in range of PKR 100. that how urgently funds are required. On a number of occasions the authorities decide to reject all bids because when they feel that the bids are unreasonably low.g. Primary dealers must have to maintain a current account (for cash settlement) with the SBP. also influence the cut-off price.0mln . which is adjusted against their final tax rate. because the earnings of T-bills are treated as income of the security holder not the capital gain.” Information taken from Daniel C Hardy (2001)  Summary of auction process shown in the figure. of which Debt service costs-cost of the factors related to the debt services. e. SBP announces the T-Bill auction Primary dealers submit the bids After the submission deadline.300. cost for organizing auction etc. securities are issued. After one or two days of finalizing price. The positions of primary dealers are maintained by the SBP in these accounts.MONEY MARKET INSTRUMENTS The setting of the cut-off price was influenced by a number of factors.” Information taken from (Naz Chohan 1991) Page 4 .  Need for funding-having insufficient funds for regular operations.

that increases the money supply to banks allowing banks to loan more money.MONEY MARKET INSTRUMENTS OPEN MARKET OPERATIONS (OMOS) SBP conducted the first formal open-market operation (OMO) sale of government securities in 1995. In Open Market Operations rather sale of securities Government can purchase treasuries back to increase the money supply. savings accounts. Although OMOs were meant to support interest-rate policy. money market accounts. it is considered to be out of circulation since it is held by the government. When treasuries are purchased by the government. In OMO Government fix the discount rate before the announcing the new securities and can be issued when they need funds. This also tends to drive interest rates down both for the depositor as well as the borrower which stimulates the economy. When money is invested in treasuries. or CDs. the MOF first used them only as a borrowing vehicle. Page 5 . the investor will probably then invest that money in some sort of securities and if the securities are checking accounts.

reliancepakistan. 100 million as per the latest audited balance sheet and the company maintains a minimum current ratio of 1: 1 and debt/equity ratio of 60: 40. Commercial paper is generally used to meet immediate cash needs. as it is unsecured and investors can only depend upon the creditworthiness of the unsecured promissory notes issued by well-known companies that are financially strong and carry high credit rating.e. The company has obtained the credit rating from a rating agency.SBP and SECP started process of creating commercial paper market in Pakistan in 2003. The minimum credit rating of the issuer shall be “A-” (medium to long-term) and “A2” (short-term). Page 6 . Commercial papers are mainly in the primary market. pay taxes and cover other short-term obligations rather than for capital transactions like long-term investments.php WHO CAN ISSUE COMMERCIAL PAPER Only highly rated companies and financial institutions can issue Commercial Paper. The company should have no overdue loan or defaults in the Report obtained from the Credit Information Bureau (CIB) of the State Bank of Pakistan (SBP). Opportunities for resale in secondary markets are very limited. At the time of issue of commercial paper company rating should not be more then two months old. Concept taken from Commercial paper http://www. to purchase inventories. The equity of the company is not less than Rs. MATURITY PERIOD OF COMMERCIAL PAPER The commercial paper shall be issued for maturities between 30 days and one year from the date of subscription.MONEY MARKET INSTRUMENTS COMMERCIAL PAPERnnnnnnnnnnnnnn nn Commercial paper consists of short-term. Funds raised from commercial paper are commonly used for current transactions i.

000. For example. in case of private placement. if a million Rs commercial paper with a maturity of 120 days is acquired by an investor at a discount price of rate of return on this commercial paper will be 15%.000 (face value) or in multiples thereof and in case of offer to general or in multiples thereof. 950. The commercial paper.15 so.the discount rate of return on commercial paper will be DRcp = (Par Value – Purchase Price) / Par Value * 360 / Days to Maturity DRcp = (1. {Rose.000 * 360 /120 = 0.. would be denominated in Rs./ CALCULATION OF RATE OF RETURN ON COMMERCIAL PAPER Most commercial paper is issued at discount from par and Yield to investor can be calculated by bank discount method just like treasury bills.doc - MODE OF ISSUE AND DISCOUNT RATE The commercial paper shall be in the form of a promissory note and be issued at such discount to face value as may be determined by the issuer keeping in view the prevailing TBill rates.. 5. may be denominated in Rs. Rate of return on commercial paper fluctuate with the daily ebb and flow of supply and demand in marketplace. Invester’s yield arises from the price of security between its purchase date and maturity date. KIBOR and its Credit Rating.000 – 950.MONEY MARKET INSTRUMENTS SIZE AND DENOMINATION The minimum size of the issue of commercial paper shall not be less than Rs.000) / 1.secp. Concept taken from Guideline for issuing commercial paper www. 100. Concept taken from viability of commercial paper www.10 million. marquis (2005) page 334} Page 7

If the value of the collateral drops below the required margin. higher price. Most Repo agreements mark the collateral to market daily. 1 million .Securities worth 1 million . Financial Institutions etc. 1 million + Securities worth 1 million After Maturity of Agreement + REPURCHASE AGREEMENT (REPO)nnnnnn Repurchase agreements are agreements between a borrower and a lender where the borrower. with the dealer agreeing to buy back the bills within a few days and the interest on loan.Rs 1million + Securities worth 1 million . The securities serve as collateral for the loan. investments in commercial papers may bring in higher yields than time deposits with lower risks. in effect. Financial Institution .MONEY MARKET INSTRUMENTS WHO INVESTS IN COMMERCIAL PAPER Commercial paper may be issued by way of Public offer and/or to Scheduled Banks. Example: we assume a financial institution has Rs 1 million cash surplus.Securities worth 1 million Page 8 Security Dealer + Rs 1 million . sells securities to the lender with the stipulation that the securities will be repurchased on a specified date and at a specified. Concept taken from short term Financing through commercial paper by Muhammad haider http://ezinearticles.  It is considered to be a safe investment since the financial situation of a company can easily be predicted over a short period. Generally regarded as a safe investment and not backed by collaterals ADVANTAGES FOR INVESTOR  Due to varying credit standings.Rs. then the borrower must send more securities to the lender to maintain margin or some money to reduce the principal outstanding. The borrowing dealer and lending company agree on 1 million RP loan collateralized by treasury bills. Commonly commercial papers are bought by Money market funds as the issue size is often too high for individual investors.

33 {Rose. non-financial corporations. an overnight loan of Rs 1 million to a dealer at 12% Repo rate would yield interest income of Rs 333. and large banks. The interest rate on open repos is slightly higher than on overnight repos. Interest income from repurchase agreement can be determined by this formula RP Interest income = Amount of loan x Current Repo Rate x (Repo Term in days/360 days) For example. However. and foreign financial institutions who find the market a convenient. RP Interest income = 1. Active lenders include state and local governments. relatively low risky way to invest temporary surplus cash that may be retrieves quickly when the need arises.000. marquis (2005) page 293} TYPES OF REPO (ACCORDING TO MATURITY) Overnight repos Overnight repos are 1 day loans Term repos Term repos have terms of greater than 1 day—usually weeks to months Open repo Open repo or continuing contracts are a contractual relationship that allows the borrower to borrow funds up to a certain limit. Longer the term and riskier or less liquid the security pledged. Page 9 .000 x . along with federal agency securities and mortgage-backed securities etc. without signing a new contract.MONEY MARKET INSTRUMENTS MAJOR BORROWERS AND LENDERS Major borrowers include government bond dealers of Treasuries and federal agency securities.33. CALCULATION OF REPO INTEREST INCOME The difference between the underlying securities current price and repurchase price is the amount of interest paid by the borrower to the lender. each party has the right to terminate the contract on a short notice. Government securities are the main collateral for most repos. larger the “haircut” will be charged.12 x (1/360) = Rs 333. Usually the securities pledged behind an Repo are valued at their current market price plus accrued interest on security less a small “haircut” (discount) to reduce the lender’s exposure to market risk. insurance companies.

In financial terms acceptance means a vow to pay a definite amount of money. If the time draft is formally accepted by a bank then it becomes a banker’s acceptance.MONEY MARKET INSTRUMENTS PURPOSE OF REPO Large banks borrow from dealers and other non-bank institutions through Repo in order to avoid deposit reserve requirements and prohibitations against their paying interest on deposit accounts. The promissory puts his Signature The word accepted on top of his signatures and The date on which the amount will be paid. Page 10 . The bank becomes the primary http://www.asp BANKER’S ACCEPTANCEnnnnnnnn nnnnnn The literal meaning of the term acceptance is approval.  The main benefit to lenders over other money market instruments is that the maturity of the Repo can be precisely tailored to the lender's needs. Concept taken from Repurchase agreements www. Companies and financial institutions eager to loan its temporary cash surplus to avoid losing even a single day’s interest. ADVANTAGES OF REPO  The main benefit of Repo to borrowers is that the Repo rate is less than borrowing from a bank.investopedia. The document which is the evidence of this promise is called a draft. In case of a bankers acceptance the initial promissory is obliged to pay the sum of money and the interest money charged before or on the maturity date to the bank while the bank is obliged to pay the money to the beneficiary. When this draft tells the promissory to pay the money on a predetermined specified date then this draft is termed as a time The person who will pay is called as the promissory while the one who will receive is the beneficiary. while the dealers enter in RPs to borrow at the low cost RP interest rate in order to purchase interest bearing securities. Now the promissory is legally obliged to pay the amount as mentioned in the draft to the beneficiary because it has been accepted properly by him according to all requirements of official acceptance.

As the dealing firms have not met or may even never meet. Milton. Now this bank gives the importer that specified sum of money and sends the shipment documents and the time draft to the issuing bank.MONEY MARKET INSTRUMENTS Banker’s acceptance is usually used in trade. Concept taken from “Acceptance: Banker's Acceptance. The bank trusts you because of your good credit rating and it signs the draft adds its signature and mentions the date. (2005). mostly for international business but is also frequently used for domestic dealing as well. There you get a time draft issued on which the date you will pay the money is mentioned. A very easy way to resolve this problem is that you go straight to your bank with which you have a very good past record. By doing this it has become liable to paying that some of money to the bank. The issuing bank after verifying stamps the word accepted on the draft. Hence the beneficiary is satisfied.eagletraders. Meanwhile the promissory http://www. The maturities of banker’s acceptance mostly range from 30 to 180 days. You order a dealer in Japan to send you ten computers on Now the foreign dealer can draw a time draft against the issuing bank.htm According to Rose the importer secures a line of credit from his bank and sends the documents to the importer.fraudaid. EXAMPLE TO ILLUSTRATE THE MECHANISM OF BANKER’S ACCEPTANCE Suppose that you own a software house and you need computers. The exporter goes to his bank which is called the accepting bank. The promissory uses the bank’s credit worthiness instead. Concept taken from Rose. pg. Trade Acceptance” 1 also gets more time to make the payments. This draft has now become a banker’s acceptance. Peter & Marquis. have a problem of trusting each other. Now that dealer does not know your credit worthiness. It allows the international as well as national dealers to trade with each other. The draft is then sent to the manufacturer who is very much satisfied now as he knows the banks credit rating. The accepting bank is paid that specific sum of money. Most probably the date mentioned will be one or two weeks later after getting the shipment. So banker’s acceptance minimizes their risk.322-327 Page 11 .

or almost anyone involved in international or domestic trade. In essence whenever any bank will agree to pay any importer on behalf of the exporter that document having all these abiding will be termed as the banker’s acceptance. Some banks also purchase the BAs which are nearing their maturity in order to increase their liquidity. BA financing may be used by exporters. referred to as a two-name paper. manufacturers. This characteristic makes the BA. The secondary obligor has the unconditional responsibility to pay the acceptance if the primary obligor dishonors it. a safe investment instrument usually with lower rates than might be available in a direct borrowing.the discount rate (interest rate*days into maturity*face amount) + the bank’s acceptance commission. distributors. Concept taken from Michael Dennis “Bankers’ acceptance financing” http://www. The combination of these is called the “all in” rate. traders.html If the accepting bank which is the primary obligor fails to pay the amount the holder of the BA (assuming the bank has sold the BA in the open market) has recourse back to the issuer of the draft the secondary obligor. shippers. SECONDARY MARKET FOR THE BANKER’S ACCEPTANCE There is a very strong and affluent market for it.nysscpa. Concept taken from Ira Weissman. They are mostly sold at a spread over t-bills and this rate is referred to as the BA rate.mysmp. “Bankers' acceptance financing--the link to financing global market activity” august 1996 / the CPA journal BA provides a very low risk interest income to the buyer. importers. It is sold at a discount from the value which will be payable on maturity.htm Page 12 . Concept taken from “What is a Banker's Acceptance (BA)?” The issuing bank can either keep it in his portfolio or sell the bankers acceptance in the money market. In this way the seller is getting funds from the money market hence it provides liquidity to the seller. The net proceeds after the sale = the face amount of the acceptance .MONEY MARKET INSTRUMENTS So by deploying both of these ways a banker’s acceptance can be created. processors.encyclopediaofcredit.htm The BA’s marketability is limited only by the reputation of the accepting branch and the market demand. domestic buyers and sellers.

the "euro" prefix can be used to indicate any currency held in a country where it is not the official currency. Many are held for one month that is the usual time period for the shipment of goods. Eurodollars are the deposits of US dollars in banks which are located outside United States. As it is a dollar account maintained outside US. To keep the example simple we assume that you shipped an assignment worth one million to the American importer. Eurodollar activity did not alter the total reserves of the US banking system. The dollar amount in the Pakistani account can be given as a loan to an investor who is liable to pay the money in dollars. Here we also suppose that you have an account in an American bank as well. Generally. The Eurodollar deposits are always moving in the form of loans. There is no central location for the trading of the Eurocurrency Page 13 . If we further mature the same example and presume that you transfer that one million dollars in your bank in Pakistan then the deposit that is now created in Pakistan is a Eurodollar deposit. The chain of Eurocurrency and Eurodollars will remain functioning until they are in demand and funds are being deposited in the international banking system. There is a need for Eurocurrency markets because funds are required in international currencies worldwide mainly in Dollars. These can be lent to government if it needs dollars and to private investors as well.MONEY MARKET INSTRUMENTS EURODOLLAR DEPOSITS nnnnnnnnnnnnn Eurodollars are the leading component of the Eurocurrency markets today. They are mostly interbank liabilities when loaned so a fixed interest rate is charged on them. Hence they did not create money but they act as an efficient distributor of liquidity. The importer pays the bills in dollars and deposits it in your account held at the American bank. MECHANISM OF EURODOLLAR DEPOSITS We suppose that you own a textile firm in Pakistan. After all these transactions a Eurodollar deposit has not been created. Euros and Pounds. The Eurocurrency accounts are formed by giving out loans and are destroyed when the loan is repaid. lent to business enterprises that have to make their payments in dollars. It can be retained as well to meet the reserve requirements and to maintain liquidity. Eurocurrency deposits are usually held from one day till one year so they are pure money market instruments. In all these transactions this fact should be acknowledged that the amount of dollars was merely transferred in between the banks but the original dollar amount remained the same. These can also be the branches of the US banks located outside US. These deposits are loaned to the home offices of the banks in US. The deposits are recorded in the denomination of dollars rather than their home currency.

Difference of interest rate or value between two countries can initiate the massive flow of funds from one to another. Other financial institutions. Text adapted from Rose. business corporations and the local government provide readily available funds for lending in the federal market. Today the online system has made it very easy to know that which institutions are short of funds and which have surplus. This is equal to the fraction of the deposits which are kept with a bank. Most federal funds are for overnight basis and they have a fixed interest rate. The funds are not physically transferred. pg. These are transferred from the lending institution’s account to the borrowers account. To meet the requirement of this legal reserve ratio the banks borrow funds mostly on overnight basis from the federal funds market. The banks and DFIs are legally obliged to keep a certain amount of funds in the reserve account which is kept with the state bank of Pakistan. pg. 316-322 FEDERAL FUNDSnnnnnnnnnnnnnnnnnnnn Federal funds refer to the overnight borrowings which are undertaken in order to meet the state bank’s reserve requirements. When they are repaid then an entry in books satisfies the whole loan. Milton. They move rapidly from one bank to another to meet the liquidity requirements of corporations. The most important borrower in the federal funds market is the commercial banks. The daily cost of funds derived from Eurodollars is Amount to be loaned * interest rate * 1/360 Text adapted from Rose. It depends on the volume of funds which is surplus in the market and the volume of fund needed by the market. governments and Eurobanks themselves. The interest rates which are levied on these funds highly fluctuate daily. There is a political risk as well that the governments might restrict the flow of money across borders. Milton. 307-310 Page 14 . (2005). Peter & Marquis. They are volatile and sensitive to fluctuations in interest rates and currency values.MONEY MARKET INSTRUMENTS deposits. The one who is short gets the benefit that its immediate requirement of money is fulfilled while the one with surplus gets interest income on its funds and thus earns it through the federal fund market. security dealers. (2005). Eurocurrencies are not without risk. Peter & Marquis.

asp (Accessed October 28.fraudaid. 2009) (Accessed October 28.htm (Accessed 28th Oct.reliancepakistan.riskglossary. 2009).encyclopediaofcredit. 29-30). The Pakistan Development Review. 2009) Ira Weissman.htm (Accessed 31st Oct.htm (Accessed 28th October.investopedia. 406-409). Trade Acceptance” http://www. 2009) http://www.php (Accessed October 19. 2009) Daniel C Hardy (2001) (pg. Profitability and Pricing in Treasury Bill Auctions: Evidence from Pakistan (Accessed October 28.nysscpa.MONEY MARKET INSTRUMENTS REFERENCESnnnnnnnnnnnnnn nnnnnnnn “Acceptance: Banker's (Accessed October 27. “Bankers' acceptance financing--the link to financing global market activity” august 1996 / the CPA journal http://www. 2009) http://www. 2009) Michael Dennis “Bankers’ acceptance financing” http://www. 2009) Naz Chohan (1991) ( http://www.2009) (Accessed October 20.Mortgage-Backed Securities Markets in Asia. Page 15 .com/terms/r/repurchaseagreement.

com/bonds/bankers- What is a Treasury 2009).com/what-is-a-treasury-bill.mysmp. http://www. McGraw-Hill/Irwin www. 2009) www.secp. 2009) http://www.MONEY MARKET INSTRUMENTS Rose. 2009) “What is a Banker's Acceptance (BA)?” acceptance./Guidelines_CommercialPaper. Milton.html (Accessed 28th (Accessed October 20. Money and Capital markets: Financial institutions and instruments in a global marketplace. (2005).htm) (Accessed October 29. Peter & Marquis.doc (Accessed October 19..wisegeek.. Page 16 .pk/corporatelaws/.