Financial Market Instruments

Money Market Instruments

• United States Treasury Bills 

These short-term debt instruments of the U.S. government are issued in 3, 6, and 12-month maturities to finance the federal government. They pay a set amount at maturity and have no interest payments, but they effectively pay interest by initially selling at a discount, that is, at a price lower than the set amount paid at maturity. For instance, you might pay $9,000 in May 2004 for a one year Treasury Bill that can be redeemed in May 2005 for $10,000.

• Negotiable Bank Certificates of Deposit  

A certificate of deposit (CD) is a debt instrument, sold by commercial banks, corporations, money market mutual funds, charitable institutions, and government agencies to depositors, that pays annual interest of a given amount and at maturity, pays back the original purchase price.

• Commercial Paper 

Commercial paper is a short-term debt instrument issued by large banks and well-known corporations.

• Banker’s Acceptances 

  

A banker’s acceptance is a bank draft (a promise of payment similar to a check) issued by a firm payable at some future date, and guaranteed for a fee by the bank that stamps it “accepted.” The firm issuing the instrument is required to deposit the required funds into its account to cover the draft. If the firm fails to do so, the bank’s guarantee means that it is obligated to make good on the draft. The advantage to the firm is that the draft is more likely to be accepted when purchasing goods abroad, because the foreign exporter knows that even if the company purchasing the goods goes bankrupt, the bank draft will still be paid off.

• Repurchase Agreements  

Repurchase agreements, or repos, are effectively short-term loans (usually with a maturity of less than two weeks) in which Treasury bills serve as collateral, an asset that the lender receives if the borrower does not pay back the loan.

• Federal (Fed) Funds

These are typically overnight loans between banks  to other banks. One reason why a bank might borrow
in the federal funds market is that it might find it does not have enough deposits at the Fed to meet the amount required by regulators. It can then borrow these deposits from another bank.the interest rate on these loans, called the federal funds rate, is a closely watched barometer of the tightness of credit market conditions in the banking system and the stance of monetary policy; when it is high, it indicates that the banks are strapped for funds, whereas when it is low, banks’ credit needs are low.

Capital Market Instruments

Capital market instruments are debt and equity instruments with maturities of greater than one year. They have far wider price fluctuations than money market instruments and are considered to be fairly risky investments.

• Stocks  

Stocks are equity claims on the net income and assets of a corporation.

• Mortgages 

Mortgages are loans to households or firms to purchase housing, land, or other real structures, where the structure or land itself serves as collateral for the loans.

• Corporate Bonds 

These are long-term bonds issued by corporations with very strong credit ratings.

• U.S. Government Securities 

These long-term debt instruments are issued by the U.S. Treasury to finance the deficits of the federal government.

• Consumer and Bank Commercial Loans 

These are loans to consumers and businesses made principally by banks, but in the case of consumer loans also by finance companies.

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