Question

Analyse the main types of money market instruments.

Answer 1

The term ‘Money Market’ is used to define a market where short-term financial assets with a maturity up to one year are traded. The assets are a close substitute for money and support money exchange carried out in the primary and secondary market. In other words, the money market is a mechanism which facilitate the lending and borrowing of instruments which are generally for a duration of less than a year. High liquidity and short maturity are typical features which are traded in the money market. The non-banking finance corporations (NBFCs), commercial banks, and acceptance houses are the components which make up the money market.

Money market is a part of a larger financial market which consists of numerous smaller sub-markets like bill market, acceptance market, call money market, etc. Besides, the money market deals are not out in money / cash, but other instruments like trade bills, government papers, promissory notes, etc. But, the money market transactions can’t be done through brokers as they have to be carried out via mediums like formal documentation, oral or written communication

1.Promissory Note:

A promissory note is one of the earliest type of bills. It is a financial instrument with a written promise by one party, to pay to another party, a definite sum of money by demand or at a specified future date, although it falls in due for payment after 90 days within three days of grace. However, Promissory notes are usually not used in the business, but USA is an exception.

2. Bills of exchange or commercial bills:

The bills of exchange can be compared to the promissory note; besides it is drawn by the creditor and is accepted by the bank of the debater. The bill of exchange can be discounted by the creditor with a bank or a broker. Additionally, there is a foreign bill of exchange which becomes due for payment from the date of acceptance. However, the remaining procedure is the same for the internal bills of exchange.

3. Treasury Bills (T-Bills):

The Treasury bills are issued by the Central Government and known to be one of the safest money market instruments available. Besides, they carry zero risk, so the returns are not attractive. Also, they come with different maturity periods like 1 year, 6 months or 3 months and are also circulated by primary and secondary markets. The central government issues them at a lesser price than their face-value.The difference of maturity value of the instrument and the buying price of the bill, which is decided with the help of bidding done via auctions, is basically the interest earned by the buyer.There are three types of treasury bills issued by the Government of India currently that is through auctions which are 91-day, 182-day and 364-day treasury bills.

4. Call and Notice Money:

Call and Notice Money exist in the market. With respect to Call Money, the funds are borrowed and lent for one day, whereas in the Notice Market, they are borrowed and lent up to 14 days, without any collateral security. The commercial banks and cooperative banks borrow and lend funds in this market. However, the all-India financial institutions and mutual funds only participate as lenders of funds.

5. Inter-bank Term Market:

The inter-bank term market is for the cooperative and commercial banks in India who borrow and lend funds for a period of over 14 days and up to 90 days. This is done without any collateral security at the rates determined by markets.

6. Commercial Papers (CPs):

Commercial papers can be compared to an unsecured short-term promissory note which is issued by top rated companies with a purpose of raising capital to meet requirements directly from the market.They usually have a fixed maturity period which can range anywhere from 1 day up to 270 days.They offer higher returns as compared to treasury bills. They are automatically not as secure in comparison. Also, Commercial papers are traded actively in secondary market.

7. Certificate of Deposits ( CD’s ):

This functions as a deposit receipt for money which is deposited with a financial organization or bank. The Certificate of Deposit is different from a Fixed Deposit receipt in two ways. i. Certificate of deposits are issued only of the sum of money is huge. ii. Certificate of deposit is freely negotiable.The RBI first announced in 1989 that the Certificate of Investments have become the most preferred choice of organization in terms of investments as they carry low risk whilst providing high interest rates than the Treasury bills and term deposits.CD’s are also issued at discounted price like the Treasury bills and they range between a span of 7 days up to 1 year.The Certificate of Deposit issued by banks range from 3 months, 6 months and 12 months.

8. Banker’s Acceptance (BA):

A Banker’s Acceptance is a document that promises future payment which is guaranteed by a commercial bank. Also, it is used in money market funds and will specify the details of repayment like the date of repayment, amount to be paid, and details of the individual to which the repayment is due.BA’s features maturity periods that range between 30 days up to 180 days.

9.Repurchase Agreements (Repo):

Repo’s are also known as Reverse Repo or as Repo. They are loans of short duration which are agreed by buyers and sellers for the purpose of selling and repurchasing.However, these transactions can be carried out between RBI approved parties.