Money Market

Chapter
 2

Money Markey defined

5-1a

A segment of a financial
market where short-term
debt instruments with high
levels of liquidity and low
default risk are traded.
 3

“A wholesale market of short-term

debt instruments that have a high
level of liquidity and a low level of
default risk”
 4

▫ Money market is a mechanism

that deals with the lending and
borrowing of short term funds.
▫ A segment of the financial
market in which financial
instruments with high liquidity
and very short maturities are
traded

It doesn’t actually deal in cash or money but

deals with substitute of cash like trade bills,
promissory note & govt. papers which can
be converted into cash without any loss at
low transaction
 5

Why are there Money

Markets?
5-1b
▫ To provide a parking place to employ short term surplus funds.
▫ To provide room for overcoming short term deficits.
▫ To enable the central bank to influence and regulate liquidity in
the economy through its intervention in this market.
▫ To provide reasonable access to users of short-term funds to
meet their requirement quickly, adequately at reasonable cost.
 7

Instruments of money market

▫ Treasury bills ▫ Repo instruments
▫ Money at call and short notice ▫ Banker’s acceptance
in the call loan market. ▫ Repurchase agreement
▫ Commercial bills, promissory ▫ Money market mutual fund
notes in the bill market.
▫ Certificate of deposit
▫ Inter-bank participation
certification
 8

Money Market Participants

5-1c
 Demanders
▫ Good credit history
▫ Proven ability to repay issue
securities in the money market
Supplier
Primary market:
▫ Governments (federal
government)
▫ Large corporations that issue
commercial paper
▫ Commercial banks that issue
repurchase agreements and
bankers’ acceptance
 10

Money Market instruments:

Treasury Bill
5-2
Money Market instruments other
than Treasury Bill
5-3
5-3a

Federal Funds
▫ The term federal funds
comes from the idea of
what the market
originally was: a short
term market, usually
overnight, where banks
would lend to each
▫ other.
 13

Federal Fund Rates

▫ The federal funds rate is an interest rate set by the Federal
Reserve Board’s Federal Open Market Committee. It is the rate at
which banks will loan each other money overnight to meet
reserve requirements. It is also a key benchmark for short-term
interest rates in the banking system. Banks set their prime rate
based on the federal funds rate, affecting the rates consumers
pay on loans and credit card balances.
 14

Federal fund floor

▫ The fed started paying bank deposits it holds. The fed now pays
average of the targeted federal funds rate minus 10 basis points
on required reserves and the lowest targeted federal funds rate
minus 75 basis points on excess reserves.
▫ By paying interest on reserves, on fed has essentially created a
price floor in the federal funds market.
▫ By establishing price floor the fed is trying to guarantee that
interest rates do not fall so low as to create deflation.
 15

5-3b 5-3c

Commercial Paper Repurchase

Short term, unsecured debt issued
most often by well established
corporations. Maturity is typically
less than 270 days.
Agreement
Is a financial arrangement whereby one
party sells an asset with the agreement to
buy the asset back or repurchase it at a
specific date in the future often at a higher
price
 5-3d 5-3e

Negotiable Certificate of Banker’s

Deposit Acceptance

A common way to facilitate trade; a

is basically an illiquid bank account.
promise by one party to pay another
That is , deposits cannot be made to
party in the future, which is accepted
the account, nor can funds be
or gauranteed by a bank.
withdrawn from the account, until it
reaches its maturity date.
 17

5-3f

Eurodollar Accounts

A bank account that is denominated in a currency other than the currency

of the country in which the depository institution resides. Are another
one of those things in finance where the name isnt exactly correct.
Eurodollar accounts are dollar denominated deposits outside of the
United States, but not necessarily always in europe.
 18

Conclusion
The Mortgage Market

Chapter
Mortgage and the Bigger
Picture
6-1
Basic Mortgage Concepts
6-2
6-2d

Insured Mortgages
▫ Another way a borrower might be able to set a lower
interest rate on their mortgage is if the mortgage is
federally insured. Mortgages whose repayment is
guaranteed by the federal housing administration are
called, naturally, FHA mortgages, whereas those
guaranteed by the federal government’s Veterans
Administration are called VA loans.
6-2e 23

Discount Points
▫ For a borrower to lower the interest rate on a
mortgage is by paying discount points, or, more simple,
“paying points.” Discount points are interest payments
made at the beginning of the mortgage.
6-2f 24

Mortgage Payments

▫ • insert loan amount or

PV formula
▫ • insert table that has 15
year versus 30 year
mortgage
6-2h 25

Taxes and Insurance

▫ Property taxes are the main source of revenue for many local
government entities including cities, countries, and school
districts. Property tax is usually calculated as a percentage of the
assessed market value of the property
▫ The lender requires the borrower to insure the collateral against
unforeseen accidents; this insurance is sometimes called hazard
insurance. The insurance will pay to have damages repaired
resulting from fire, wind, vandalism, or other causes that would
result in a decrease in the market value of the house.
New Types of Mortgages
6-3
6-3a
Zero-Down Home Mortgages
▫ In response to the lack of funds
for a home mortgage down
payment, some mortgage lenders
started to offer “zero-down”
mortgages. With these
mortgages, the lenders provides
100% of the purchase price of the
house. While these new zero-
down mortgages resulted in more
people being able to get
mortgages, they also carried with
them hidden risk.
6-3b 28

Teaser-Rate ARM’s
▫ Adjustable-rate mortgages traditionally have lower initial interest
rates than do fixed-rate mortgages. This is because with an ARM,
the risk that interest rates may increase in the future is borne by
the borrower.
▫ Several mortgage lenders started offering ARMs with extremely
low initial interest rates, and thus lower initial monthly payments,
but these initial low interest rates would increase dramatically in a
few years. These mortgages were called TEASER RATE ARM’s
6-3c 29

Negative Amortization Home Mortgages

▫ With NegAms, the monthly mortgage payment paid by
the borrower is less than the interest charged over the
month, so at the end of the month the mortgage
balance increases.
◦ Most negative amortization mortgages
allowed the negative amortization to go on only for the
first few years of the mortgage.
6-3d 30

No Documentation Home Mortgages

▫ The riskiest of the “new” mortgages were those that did not
require any verification of income or assets of the borrowers.
These mortgages were called no documentation or “no doc”,
mortgages. Undertaking “due diligence” to verify a borrower’s
income, assets, credit history, and so on took time and slowed
down how quickly the mortgage originator received their
commission.
The Secondary Mortgage
Market and MBA’s
6-4
The Mortgage Market,
Government Policies, and the
Global Financial Crisis
6-5
conclusion