MONEY MARKET SECURITIES

● Money market securities are debt securities with a maturity of one year or less.
● Issued in the primary market through a telecommunications network by the Treasury, corporations, and
financial intermediaries that wish to obtain short-term financing. (Exhibit 6.1)
● Are commonly purchased by households, corporations, and governments that have funds available for
a short time period.
● Can be sold in the secondary market and are liquid
.
NCD (NEGOTIABLE CERTIFICATE OF DEPOSIT)

● A deposit shortage occurs when banks do not have enough deposits to meet their lending needs. This
situation can arise when depositors withdraw their money from bank accounts, especially
non-interest-bearing accounts like checking accounts, and invest it elsewhere for better returns, such
as in Treasury bills, commercial paper, and bankers’ acceptances. This shortage limits the bank's ability
to lend money and support economic activities, which can lead to liquidity issues and reduced financial
stability. The introduction of instruments like Negotiable Certificates of Deposit (NCDs) was a strategy
to attract cdeposits back to banks by offering a low-risk, interest-bearing option.

● An NCD has a short maturity period, ranging from two weeks to one year. Interest is typically
paid twice a year or at maturity, and the instrument is purchased at a discount to its face value.
Interest rates are negotiable, and the yield from an NCD is determined by money market
conditions.

ADVANTAGES OF NCD

Negotiable Certificates of Deposit (NCDs) are low-risk investments, insured by the FDIC for up to $250,000 per
depositor per bank, an increase from $100,000 in 2010 due to the Dodd-Frank Act. This makes NCDs
attractive to investors who prefer low-risk options like U.S. Treasury securities. However, NCDs are slightly
riskier than Treasury bills, which are backed by the U.S. government's full faith and credit. Consequently, NCDs
offer higher interest rates compared to Treasury bills.

DISADVANTAGES OF NCD

Most NCDs are non-callable, meaning the bank cannot redeem them before maturity. If an NCD is callable, the
bank will likely call it when interest rates fall, making it hard for investors to find another NCD with a similar
interest rate. To compensate for this risk, callable NCDs offer higher initial interest rates.

Understanding Long-Term Negotiable Certificates of Deposit (LTNCDs) in the Philippines

Long-Term Negotiable Certificates of Deposit (LTNCDs) are a popular investment instrument in the
Philippines, regulated by the Bangko Sentral ng Pilipinas (BSP). These certificates offer investors an
opportunity to earn higher interest rates compared to regular savings accounts or time deposits. Major banks
such as BDO, BPI and Security Bank offer these instruments to investors.

Key Features of LTNCDs:

Currency and Format: LTNCDs must be issued in Philippine Pesos and are in a scripless format, meaning
they are not represented by physical certificates but are instead recorded electronically.

Minimum Maturity: They have a minimum maturity period of five years. This long-term nature provides a
stable and predictable return for investors over a substantial period.

Registration: LTNCDs must be registered with a third-party Registry Bank that maintains an Electronic
Registry Book. This ensures transparency and security in the recording of these instruments.
Benefits of Investing in LTNCDs

Higher Returns:
Explanation: The interest rates on Long-Term Negotiable Certificates of Deposit (LTNCDs) are generally higher
than those offered by regular savings accounts or time deposits. This makes them an attractive option for
investors seeking better returns on their investments.
● Example: If a savings account offers an interest rate of 1%, an LTNCD might offer 3.75% to 5.375%,
significantly increasing the potential earnings over the same period.

Quarterly Interest Payments:

Explanation: LTNCDs typically pay interest on a quarterly basis. This means investors receive regular income
throughout the year, rather than waiting until the end of the investment term.
● Example: An investor with an LTNCD earning 4% per year on a Php 100,000 investment would receive
approximately Php 1,000 in interest every three months, providing a steady income stream.

Safety and Security:

Explanation: LTNCDs are issued by major, reputable banks and are regulated by the Bangko Sentral ng
Pilipinas (BSP). This regulation ensures that the banks meet specific standards and requirements, adding a
layer of security for investors.
● Example: Investing in an LTNCD from a well-known bank like BDO or BPI gives investors confidence
that their money is safe and that the bank will honor its obligations.

Marketability:
Explanation: Even though LTNCDs are designed to be long-term investments with a minimum maturity of five
years, they can be sold in the secondary market. This feature provides liquidity, allowing investors to access
their funds before the maturity date if needed.
● Example: If an investor needs to liquidate their investment due to an emergency, they can sell their
LTNCD to another investor in the secondary market, thereby gaining access to their funds without
having to wait for the full term to end.

FEDERAL FUNDS

Federal funds are the heart of money market

Federal funds refer to excess reserves held by financial institutions, over and above the mandated reserve
requirements of the central bank.

Banks will borrow or lend their excess funds to each other on an overnight basis, as some banks find
themselves with too much reserves and others with too little.

The federal funds rate is a target set by the central bank, but the actual market rate for federal fund reserves is
determined by this overnight inter-bank lending market.

The federal funds market today, together with the RP market is in many ways a functional equivalent of the call
loan market of the 1920s and earlier. The most notable differences are that the nonbank portion of the market
is now a net lender rather than a net borrower, and the collateral used is exclusively debt of the U.S.
government and its agencies rather than private stocks and bonds.

COMMERCIAL PAPER

Commercial paper is an affordable substitute for bank loans for a lot of sizable, creditworthy issuers.
Companies and foreign governments can issue commercial paper, which is an unsecured promissory note with
a short maturity.

Why is it unsecured?
Since commercial paper is issued by big, credit-worthy companies with solid finances, it is usually unsecured
and hence a low-risk investment for buyers. The main causes of commercial paper's insecurity are as follows:
 ● Issuer Creditworthiness
● Short-term Nature
● Market Confidence
● Cost Efficiency
● Liquidity and Flexibility
● Regulatory and Market Standard
● Diversified Investor Base

The combination of these factors allows corporations to issue unsecured commercial paper successfully,
providing them with a convenient and cost-effective method of short-term financing while offering investors a
low-risk investment option.
However, since CP is unsecured (i.e. not backed by collateral), investors must have faith in the issuer’s ability
to repay the principal amount as outlined in the loan agreement.
Commercial paper thereby represents a convenient option for qualified companies to access the capital
markets without having to go through the tedious SEC registration process.

Advantages of Commercial Paper

Advantages for Investors:

➢ Diversification
It allows investors to diversify their portfolios by adding short-term, low-risk securities with potentially attractive
yields.

➢ Liquidity
The secondary market for commercial paper offers liquidity, allowing investors to sell their holdings before
maturity if needed, providing flexibility.

➢ Safety
Reputable companies often issue commercial papers with strong credit ratings. It minimizes the risk of default
and provides a relatively safe investment option.

➢ Yield Potential
While considered low-risk, commercial paper typically offers better yields than traditional money market
instruments like Treasury bills, providing investors with a modest return on their investments.
Us
➢ Maturity Options
Investors can choose from various maturities, enabling them to match their investment horizon and cash flow
needs.

➢ Market Efficiency
Commercial paper markets contribute to the overall efficiency of the financial system by facilitating the flow of
funds between investors and issuers.

➢ Professional Management
Money market funds often invest in commercial paper. It gives retail investors access to professionally
managed portfolios that include these short-term securities.

➢ Ease of Access
➢ Commercial paper is accessible through brokerage accounts, making it convenient for
individual investors to participate in the market.

Types of Commercial Paper

Commercial paper has four types:
● Promissory Notes
● Drafts
● Checks
● Certificates of Deposit (CDs)

Commercial Paper: Issuers, Interest Rates and Maturities

Types of Issuers: Commercial paper is issued by large corporations with strong credit ratings as short-term
debt to fund their short-term working capital needs.

Term: The typical CP term is ~270 days, and the debt is issued at a discount (i.e. zero-coupon bond) as an
unsecured promissory note.

Denomination: Traditionally, commercial paper is issued in denominations of $100,000, with the primary
buyers in the market consisting of institutional investors (e.g. money market funds, mutual funds), insurance
companies, and financial institutions.

Maturities: The maturities on commercial paper can range from just a handful of days to 270 days, or 9
months. But on average, 30 days tends to be the norm for maturities of commercial paper.

Issuance Price: Similar to treasury bills (T-Bills), which are short-term financial instruments backed by the
U.S. government, commercial paper is typically issued at a discount from face value.

Benefits and Risks of Commercial Paper

Using commercial paper as a funding source has a number of benefits. Commercial paper has the benefit of
speed; it can be issued swiftly, which makes it a strong choice for businesses that need to generate money
rapidly.

BANKERS ACCEPTANCE

Banker’s Acceptances
● Tool for substituting the creditworthiness of the buyer with the creditworthiness of the bank.
● Negotiable piece of paper that functions like a post-dated check. A bank, rather than an account holder,
guarantees and accepts the responsibility for the payment.
● Are used by companies as a relatively safe form of payment for large transactions, and reduce
transaction related risks.
● Commonly used for international trade transactions but can also be used in local to local.
● Considered a short term debt investment traded in the secondary market.

PURPOSE OF BANKER’S ACCEPTANCE (for additional info)

● In international trade, sellers often avoid extending long-term credit to buyers due to the risk of bad
debts. This creates a problem for buyers who might not have immediate funds to pay for shipments. To
resolve this, the buyer's bank steps in to guarantee payment. The seller trusts the bank's
creditworthiness and agrees to accept payment at a later date, knowing the bank ensures the payment.
This arrangement, known as a banker’s acceptance, provides security for the seller and financing
flexibility for the buyer.

Before acceptance - Draft is not an obligation of the bank it is merely an order by the drawer to the bank to
pay a specified sum of money on a specific date to a named person or to the bearer of the draft
After acceptance - Draft becomes liability of the bank, The company’s bank stamps the Note “ Accepted” and
charges the company a stamping fee.

SEQUENCE OF STEPS IN THE CREATION OF A BANKER’S ACCEPTANCE

 1. Purchase order
2. Letter of Credit application
- This letter of credit represents a commitment by that bank to back the payment owed to
the foreign exporter.
3. The L/C is then presented to exporter’s bank
4. Exporter's bank notifies the exporter company that the L/C has been received
5. Shipping of goods
6. the exporter has submitted the shipping documents and the time draft to their bank. At this point, the
draft is merely a request for payment.
7. The importer's bank has accepted the time draft. This acceptance transforms the draft into a
banker's acceptance (B/A), indicating a firm commitment from the importer's bank to pay the draft at
maturity.
I. Exporter Company’s Choices
- Exporter Company now has a promise from the Importer’s bank to pay $1 million (example lang
ang 1M) in 40 days. They can:
a. Wait 40 days and get the full $1 million.
b. Get cash immediately by selling this promise to their bank for a bit less money (a process called
discounting).
II. Discounting the Bill:
- If Exporter’s company decides to get the money now, the Exporter’s bank will give them
$937,650 instead of $1 million. The difference ($1 million - $937,650 = $62,350) is the discount
or fee Exporter's bank charges for giving the money immediately.
III. Exporter’s Bank’s Choices:
- Exporter's bank now holds the banker's acceptance. They can:
a. Hold it for 40 days and get the full $1 million.
b. Sell it to another party for a bit less, who then has the right to receive the full $1 million in 40
days.
IV. Final Payment:
- Whoever holds the banker's acceptance at the end of the 40 days gets paid the full $1 million by
the importer’s bank.

Term
● common maturity of BA range from 30 days to 180 days.
● can sometimes be issued for periods as short as 1 day or as long as 270 days.

As an investment
The difference between the face value and the discounted price represents the return or yield the buyer will
receive.

Face Value - Discounted Price = Return or Yield

Where to access BA
Banker’s acceptances are traded like debt instruments in a secondary market. It is traded through banks and
securities dealers.

Eligibility/Safeness
 ● A banker’s acceptance relies on the creditworthiness of the banking institution rather than who issues
Since they’re backed by the bank, they are relatively safe.
● The bank may also require that the issuer meet its credit eligibility requirements, including a deposit
sufficient to cover the banker’s acceptance.

Pros and Cons

Pros Cons

● It provides the seller with assurances against ● The bank may require the buyer for a
default. collateral before issuing a banker’s
● The buyer doesn’t have to prepay or pay in acceptance.
advance for goods. ● The buyer may default, forcing the financial
● It provides the ability to purchase and sell institution to make the payment.
goods in a timely manner.

REPURCHASE AGREEMENTS

A repurchase agreement, sometimes called a Repo, is a form of short-term borrowing for dealers in
government securities. A dealer sells government securities to an investor and buys them back the following
day at a slightly higher price.

One major characteristic of a Repo is the secondary market for this security does not exist. Because they are
short-term and are customized agreements between two specific parties. These contracts involve specific
terms and collateral that aren't standardized or easily tradable, making it impractical in secondary market
trading.

HOW DOES IT WORK?

Repurchase agreements are generally safe investments because the securities involved, typically Treasury
Bonds, serve as collateral. Classified as a money market instrument, a repo is thus a short-term,
collateral-backed, interest-bearing loan. The buyer acts as a short-term lender, while the seller is a short-term
borrower. Individuals typically use them to finance the purchase of debt securities or other investments.

Despite the similarities with collateralized loans, repos count as purchases. However, because the buyer only
temporarily owns the security, these agreements are usually treated as loans for tax and accounting purposes.
When there's a bankruptcy, repo investors can generally sell their collateral. This distinguishes repos and
collateralized loans; for most collateralized loans, bankrupt investors would be subject to an automatic stay.

RISKS OF REPURCHASE AGREEMENTS

Repurchase agreements are generally seen as low risk. The largest risk in a repo is that the seller may fail to
repurchase the securities at the maturity date. When this happens, the security buyer may liquidate the
security to recover the cash it paid.

WHO BENEFITS IN A REPO AGREEMENT?

In theory, all parties benefit. The seller gets the cash injection it needs, while the buyer gets to make money
from lending capital.

TREASURY BILLS

Overview of Treasury Bills

 ● Treasury Bills (T-Bills) are short-term debt instruments issued by the U.S. government to raise funds for
various needs. They are a fundamental component of the money market, providing a secure and liquid
investment option for various investors.

Issuance of Treasury Bills

The U.S. Treasury issues T-Bills with several different maturities:
● Weekly Issuance: T-Bills are issued weekly with 4-week (28 days), 13-week (91 days), 26-week (182
days) maturities
● Cash Management Bills: Occasionally, the Treasury issues T-Bills with terms shorter than 4 weeks,
known as cash management bills, to address short-term funding needs.
● Monthly Issuance: T-Bills with a 1-year maturity are issued on a monthly basis.

Investors in Treasury Bills

A diverse group of investors utilizes T-Bills for their high liquidity and safety:
● Depository Institutions: These institutions retain T-Bills to maintain liquidity and ensure they can meet
withdrawal demands.
● Financial Institutions: Other financial entities invest in T-Bills to manage periods when cash outflows
exceed inflows.
● Individuals: People with substantial savings often invest indirectly in T-Bills through money market
funds.
● Corporations: Businesses invest in T-Bills to cover unexpected expenses and manage cash reserves
effectively.

Credit Risk of Treasury Bills

One of the primary attractions of T-Bills is their virtually risk-free nature. Backed by the full faith and credit of
the U.S. government, T-Bills are considered to have negligible credit or default risk.
Liquidity of Treasury Bills
T-Bills are highly liquid assets. Their short maturity and strong presence in the secondary market ensure that
investors can easily buy and sell these instruments, making them an excellent choice for managing short-term
funds.

Treasury Bill Auction

Investors can participate in T-Bill auctions by submitting bids online at TreasuryDirect. Bidders can choose
between:
● Competitive Bidding: Investors specify the yield they are willing to accept.
● Noncompetitive Bidding: Investors agree to accept the yield determined at auction, ensuring they
receive the desired amount of T-Bills.

Advantages and Disadvantages of Treasury Bills

ADVANTAGES

● Free of default risk backed by the U.S. government guarantee

● Offers low minimum investment requirement starting from $100
● Highly competitive among other short-term investments, thus used as a benchmark for other short-term
investments
● Interest income is exempt from state and local income taxes, making them a tax-efficient investment
● Interest income is subject to federal income taxes but exempt from FICA taxes
● Investors can purchase and sell T-bills with ease in the secondary or open market
● Investors can utilize T-bills to diversify their investment portfolio and mitigate overall risk

DISADVANTAGES
● Offers low return compared with other debt securities
● T-bills can restrict cash flow for investors who require consistent income
● The fixed interest rates of T-bills leave investors vulnerable to inflation, potentially diminishing their
purchasing power and resulting in a decline in real returns
● If interest rates rise, the value of T-bills will decline, resulting in a potential loss for investors who need
to sell their holdings before maturity
● T-bills are less liquid compared to alternative investments, and investors may require to wait until
maturity date to access their funds