1.

What is the main characteristic of money market transactions which enables it to have active
secondary market?
Money market transactions do not take place in any one particular location or building. Instead,
traders usually arrange purchases and sales between participants over the phone and complete
them electronically. Because of this characteristic, money market securities usually have an
active secondary market. This means that after the security has been sold initially, it is relatively
easy to find buyers who will purchase it in the future. An active secondary market makes money
market securities very flexible instruments to use to fill short-term financial needs.
They are usually sold in large denominations, they have low default risk, they mature one year
or less from their original issue date, less than 120 days.
2. If a 15-year bond is supposed to mature in the next three months, is it considered to be a
money market instrument?
Money market securities are securities that are issued for less than one year. So, although
thebond has only three months to maturity, it is still considered to be a capital market
security as itwas originally issue for 15 years.

3. What cost advantages does the money market have over the banking sector?
reserve requirements create additional expense for banks that money markets do not have
- regulations on the level of interest banks could offer depositors led to a significant growth in
money markets, especially in the 1970s and 1980s
- when interest rates rose, depositors moved their money from banks to money markets
- the cost structure of banks limits their competitiveness to situations where their
informational advantages outweighs their regulatory costs
- limits on interest banks could offer was not relevant until the 1950s. In the decades that
followed, the problem became apparent.
4. What are the main purposes of money markets? Why is there a need for money markets?
provide a place for warehousing surplus funds for short periods of time, provides low cost
source of temporary funds, The market enables governments, banks, and other large
institutions to sell short-term securities to fund their short-term cash flow needs. It also
allows individual investors to invest small amounts of money in a low-risk market.
5. How did asset-backed commercial papers contribute to the financial crises of 2007-2008?
As the mortgage situation in the United States became more serious, market participants
became unwilling to purchase ABCP. This caused trouble for financial institutions that had
relied on sales of ABCP to obtain funds for use in longer-term investments.
6. Why are T-Bills a favorable money market instrument for the U.S. government? For investors?
Treasury bills—commonly known as T-bills—are short-term securities issued by the U.S.
Treasury on a regular basis to refinance earlier T-bill issues reaching maturity and to help
finance federal government deficits. Of all money market instruments, T-bills have the largest
total dollar value outstanding. They are very liquid (i.e. you can easily convert them to cash).
Even before the full time period elapses, you can always decide to go for your money at any
time. This is however not encouraged, unless you are in very desperate need of cash. Note that
if you decide to go for your money (i.e. sell your T’bills) before the time elapses, you will not
 be paid the full promised amount. In order words, the investment will be discounted. No
transaction cost is charged. Unlike other forms of investment where you are charged a fee by
the broker who purchases them for you, brokers do not charge you for purchasing T'Bills for
you.
7. Why do businesses use the money markets?
businesses both invest and borrow in the money markets. they borrow to meet short-term cash
flow needs, often by issuing commercial paper. they invest in all types of money market
securities as an alternative to holding idle cash balances.
8. The Eurodollar market dates back to the period after World War II, when started with the
circulation of dollars overseas followed by the development
of a separate, less-regulated market. Why did the Eurodollar market grow so rapidly?
Due to the huge expansion in international trade from the early 1970’s, there was a huge
growth in demand for foreign currencies to settle trade transactions. The availability of
currencies for trading, and so the development of the FX markets itself, was facilitated by the
development of the Eurodollar/Eurocurrency market.
9. What is meant by the Eurodollar market? Why is it an important source of financing? Discuss.
The primary reason is that depositors often receive a higher rate of return on a dollar deposit
in the Eurodollar market than in their domestic market. At the same time the borrower is
often able to receive a more favorable rate in the Eurodollar market than in their domestic
market. This is because multinational banks are not subject to the same regulations restricting
U.S. banks and because they are willing and able to accept narrower spreads
between the interest paid on deposits and the interest earned on loans.
10. How are interest rates usually settled for negotiable CDs?
The rates paid on negotiable CDs are negotiated between the bank and the customer. They are
similar to the rate paid on other money market instruments because the level of risk is
relatively low. Large money center banks can offer rates a little lower than other banks
because many investors in the market believe that the government would never allow one of
the nation’s largest banks to fail. This belief makes these banks’ obligations less risky
11. How can you characterize the Treasury bill’s interest rates? How are investment rates different
from mentioned interest rates?
Treasury bills are very close to being risk-free. As expected for a risk-free security, the interest
rate earned on Treasury bill securities is among the lowest in the economy.
12. What are the terms of federal funds? Why are these terms often misleading?
Fed funds are usually overnight investments. Banks analyze their reserve position on a daily
basis and either borrow or invest in fed funds, depending on whether they have deficit or
excess reserves The bank will sell its excess funds to the bank that offers the highest rate. Once
an agreement has been reached, the bank with excess funds will communicate to the Federal
Reserve bank instructions to take funds out of its account at the Fed and deposit
the funds in the borrower’s account. The next day, the funds are transferred back,
and the process begins again. Most fed funds borrowings are unsecured. Typically, the entire
agreement is established by direct communication between buyer and seller.
 13. How does the Federal Reserve control interest rates on Fed funds? How are interest rates
settled on Fed funds
The forces of supply and demand set the fed funds interest rate The Federal Reserve cannot
directly control fed funds rates. It can and does indirectly influence them by adjusting the
level of reserves available to banks in the system. The Fed can increase the amount of money
in the financial system by buying securities. When investors sell securities to the Fed, the
proceeds are deposited in their banks’ accounts at the Federal Reserve. These deposits increase
the supply of reserves in the financial system and lower interest rates. If the Fed removes
reserves by selling securities, fed funds rates will increase.
14. Why do commercial paper securities mature within 270 days or less?
Because is to avoid the need to register the security issue with the Securities and Exchange
Commission.
15. Why is the banker’s acceptance form of financing ideal for foreign transactions?
Because delays in international shipping are avoided, the exporter receives prompt
payment, and the exporter is paid in domestic funds (no foreign exchange risk), &
creditworthiness of transaction is secured.

Practise

1. Calculate the annualized discount rate and annualized investment rate on the purchase of
91-day T-bill, if the face value is $3,000 and purchase price is $2,900.(1QP)
Annualized Discount Rate = (($3,000-$2,900)/$3,000)*360/91 = 0.1319 i.e. 13.19%
Annualized Investment Rate = (($3,000-$2,900)/$2,900)*365/91 = 0.1383 i.e. 13.83%

2.What would be the annualized discount rate % and the annualized investment rate % if
a Treasury bill was purchased for $9,360 maturing in 270 days for $10,000?(2QP)
For Treasury bill discount we assume 360 days a year
Disc Rate = ((F-P) / F) x 360/n = ((10,000-9,360) / 10,000) x 360/270 = 0.0853 = 8.53%
For finding investment rate we will assume 365 days a year.
Investment rate = ((F-P) / P) x 365/n = ((10,000-9,360) / 10,000) x 365/270 = 0.0866 =
8.66%
So Discount rate = 8.53% and Investment rate = 8.66%
3.Suppose you want to earn an annualized discount rate of 2.5%. What would be the most
you would pay for a 182-day Treasury bill that pays $10,000 at maturity?
((10000-x)/x )*182/365=0.025

((10000-x)/x )=0.050137

10000-x=0.050137x

1.050137x=10000

x=10000/1.050137

x=9522.56

4.What is the minimum discount rate you will accept if you want to earn at least a 0.25% annualized
investment rate on a 182-day $1,000 T-bill?

0.0025=1000-P/P*360/182

0.0025P=(1000-P) *1.978022

0.0025P+1.978022P=1,978.022

P=1,978.022/1.980522

P=998.7377 $

So as investor your purchase price is 998.7377$

Now we can estimate our earnings:

i(discount)=1000-998.7377/1000*360/182

i=0.001262*360/182

i=0.002497 so as investor you can estimate your earnings at 0.2497%

5.The price of a 145-day commercial paper is $4,525. If the annualized discount rate is 5.25%, what
will the commercial paper will pay at the day of maturity

PV= 4.525,Rate= 5.25% , mat= 145 days

Fv=pv(1+i)^n
Fv= 4525*(1+0.0525/365)^145=4620.36
365-ზე გაყოფით გავიგეთ ერთ დღში რა პროცენტი გვერიცხება.
6. Your minimum discount rate bid of 0.35% for a $10,000 T-bill that matures in 91 days has been
accepted. Calculate your annualized investment rate?

Discount rate= (face value-purchase price)/face value *360/number of days until maturity
0.35%= (10000-P)/10000 *360/91
P=10000-0.0035*910000/360=9991.15
Investment rate= (10000-9991.15)/9991.15 *365/91=0.003552 or 0.3552%

7. The price of $8,000 face value commercial paper is $7,930. If the annualized discount rate is 4%,
when will the paper mature? If the annualized investment rate is 4%, when will the paper mature?

Solution: Let N = when the paper matures

Discount Rate:
[($8,000 - $7,930) / $8,000)] x (360 / N) = 0.04
($70 / $8,000) x (360 / N) = 0.04
($0.00875) x (360 / N) = 0.04
(360 / N) = 0.04 x (1/ $0.00875)
(360 / N) = 4.571429N = 78.75 = 79 days
Investment Rate:
[($8,000 - $7,930) /($7,930)] x (365 / N) = 0.04
($70 / $7,930) x (365/ N) = 0.04
(365 / N) = 0.04 x (1/ 0.008827)
365/ N = 4.53155
N = 80.55 = 81 days
8. Calculate the price of a 180-day T-bill purchased at a 5% discount rate if the T-bill has a face value of
$5,000.

((5,000-x)/5,000)*360/180=0.05

9. A commercial paper’s annualized discount rate is 4.85%. Its face value is $18,000,000, and it
matures in 72 days. What would its price be? What would its price be if it matures in 125 days?
0,0485= ((18,000-x)/18000)* 360/72

10. The annualized yield is 4.5% for a 91-day T-bill and 5% for a 182 day T-bill. What is the expected
rate for 91 T-bill from now?
11. In a Treasury auction of $2.1 billion par value 91-day T-bills, the following bids were submitted:

Bidder Bid Amount ($ million) Price per $100

1 500.0 99.40
2 750.0 99.01
3 1.5 99.25
4 1.0 99.36
5 600.0 99.39
If only these competitive bids are received, who will receive T-bills, in what quantity, and at what
price?
If there are only competitive bids then the auction will settle at the highest price which clears the
auction amount. This includes bidders 1, 4 and 5. The winning price will be $0.9936.

12. If the Treasury also received $750 million in noncompetitive bids, who will receive T-bills, in what
quantity, and at what price? (Refer to the table in problem 11.)

All competitive bids are accepted at the highest yield paid to competitive bids. Thus, all $750
million will be accepted at 0.9936.