1. Certificate for Introduction to Securities & Investment (Cert.ISI) Unit 1 Lesson 17:  Money markets  Difference between a money market and capital market instruments  Advantages and disadvantages of investing in money market instruments 17cis

2. Unit trust manager You are a Unit Trust manager. You have built a diversified portfolio of investments to cushion yourself against monetary and fiscal policy risks. However, your know that your portfolio is more vulnerable to certain risks than others. 1. A change to which economic variable (ceteris paribus) would damage the value of your fund the most? 2.Which way (up or down) would that economic variable have moved?

3. Money markets The money markets are wholesale (i.e. institutional) markets for cash  The money market is built around negotiable securities  A negotiable security is title to an asset, which you can buy or sell

4. Advantages of the money markets Money markets are considered to be low risk  Money market instruments preserve the nominal value of the amount invested  If £100,000 is invested in a Certificate of Deposit, £100,000 will be returned by the bank at the end of the deposit period For this reason, money markets play an important role in times of market uncertainty

5. Disadvantages of the money markets However, the money markets are only considered suitable for short-term investments  Over the medium- to long-term, the money markets have under-performed many other investment types Definition of under- performance: Failing to provide as good a rate of return (in terms of capital growth and income) as another type of investment

6. Money markets In the UK, the three main money market instruments are:  Treasury Bills  Certificates of Deposit (CDs)  Commercial Paper (CP) Money market annual yield % chart Source: CNBC Income from all money market instruments are closely tied to interest rates. But when investors are running scared, they are happy to take the lower yield in return for greater security

7. Treasury Bills Treasury Bills are a form of ultra-short gilt  Typically, a Treasury Bill will be redeemed after three months  No coupon (i.e non interest-bearing) If there is no interest paid, how does the investor receive a return on his money? Treasury Bills are issued at a discount to par value  Treasury Bill of £1,000 nominal sold for £990  Upon maturity three months later, investor is repaid £1,000, invests pockets the difference of £10 o Return on investment is 1% over three months  AER is 4.06%

8. Certificates of Deposit Certificates of Deposit (CDs) are half-way between a bond and a cash deposit CDs are issued by banks in return for deposited money  The deposit is for a specified period of time  Traditionally this is for a maximum of five years but usually much less  The deposit is a fixed sum  The minimum deposit in the UK is £100,000  The interest rates can be fixed or variable Certificates of deposit (CDs) are negotiable : they can be bought and sold  Because there is a penalty for early redemption, the depositor is unlikely to take the money back from the bank  The depositor will sell the CD to another investor

9. Commercial Paper Commercial Paper (CP) is the corporate equivalent of a Treasury Bill Commercial Paper is issued by large companies to meet their short-term borrowing needs The company will agree in advance with its banker on a programme of CP issues – say, £10m over the course of a year  Company issues the CP to the bank with a series of different maturities, depending on its short-term funding needs  One month, three months, six months etc  Company can also issue CP in different currencies CP is not backed by any collateral. In the UK, the borrower must be listed on the stock exchange and must have substantial net assets. However, rating by credit agencies is not required. The maturities of commercial paper must be between 7 and 364 days. The commercial paper is exempted from stamp duty. CP is usually less liquid than bonds - there is no real secondary market

10. Commercial Paper Like Treasury Bills, CP is zero-coupon  It is issued at a discount to par value  The buyer (i.e. the bank lender) is remunerated upon maturity by the difference between the discounted price and the par value redeemed in full All money market instruments in the UK have been “dematerialised” There are no actual certificates or bills  Ownership is registered electronically  Changes of ownership (i.e trade settlement) is effected through the CREST system

11. Commercial Paper A feature of the 2008 Credit Crunch was the unwillingness of the banks to lend long-term. This led to a spike in CP issuance, as companies turned to short-term sources of finance Source: Bank of England