Financial Institutions and Markets Dr Andrew L H

Financial Institutions and Markets Dr. Andrew L. H. Parkes Day 5 “How do financial markets work? ” Dec. 15, 2009 Financial Institutions & Markets, Ch. 9 卜安吉

Chapter 9: Money Markets Money Market Ø Ø Ø n Short-term Low risk Very Liquid Therefore, they are SAFE and LIQUID – or CLOSE to being MONEY. ALMOST – Money Dec. 15, 2009 Financial Institutions & Markets, Ch. 9 2

Chapter 9: Money Markets Money Market Ø Sold in Large Amounts Low DEFAULT risk Ø Less than 1 year to maturity n Most less than 120 days – so CLOSE to being MONEY. Ø 6 month U. S. Treasury Bill rate As of Dec. 12, 2008 Dec. 15, 2009 Financial Institutions & Markets, Ch. 9 3

Chapter 9: Money Markets Money Market Ø Prime Rate is top flat line n Federal Funds is the bottom flat line (notice the rate is almost zero) These are really considered as MONEY. n Rate comparisons - NYT http: //markets. on. nytimes. com/research/markets/bonds. asp Dec. 15, 2009 Financial Institutions & Markets, Ch. 9 4

Chapter 9: Money Markets Money Market Ø Prime Rate is top flat line n Bottom (faint) line is Fed Funds – what are they again? n n These are really considered as MONEY. Rate comparisons - NYT http: //markets. on. nytimes. com/research/markets/bonds. asp Dec. 15, 2009 Financial Institutions & Markets, Ch. 9 5

CONSUMER MONEY RATES Tuesday, December 09, 2008 YIELD/RATE (%) 52 -WEEK CHANGE IN PCT. PTS Interest Rate Last Wk Ago High Low 52 -Wk 3 -Yr Federal-funds rate target 1. 00 4. 25 1. 00 -3. 25 -3. 00 Prime rate* 4. 00 7. 25 4. 00 -3. 25 -3. 00 Libor, 3 -month 2. 16 2. 21 5. 11 2. 13 -2. 95 -2. 32 Money market, annual yield 2. 37 2. 40 3. 54 2. 25 -1. 17 -0. 35 Five-year CD, annual yield 3. 71 3. 83 4. 48 3. 23 -0. 77 -0. 80 30 -year mortgage, fixed 5. 83 5. 81 6. 61 5. 36 -0. 09 -0. 03 15 -year mortgage, fixed 5. 54 5. 60 6. 22 4. 91 0. 02 0. 08 Jumbo mortgages, $417, 000 -plus 7. 03 7. 22 7. 89 6. 49 0. 17 0. 88 Five-year adj mortage (ARM) 5. 92 5. 97 6. 14 5. 01 0. 13 0. 51 New-car loan, 48 -month 6. 80 6. 83 7. 14 6. 45 -0. 06 0. 19 Home-equity loan, $30, 000 5. 44 5. 15 6. 88 4. 64 -1. 40 -0. 60 * Base rate posted by 75% of the nation's largest banks. Source: Thomson Reuters, WSJ Market Data Group, Bankrate. com http: //online. wsj. com/mdc/public/page/marketsdata. html Dec. 15, 2009 Financial Institutions & Markets, Ch. 9 6

U. S. Treasury (Bills) 1 Month - As of 9/23/2009 http: //online. wsj. com/mdc/public/npage/2_3050. html? rnd=7055&sid=1224035&page=bond Dec. 15, 2009 Financial Institutions & Markets, Ch. 9 7

Why are Money Markets needed? n Banks have the information advantage – they can mediate asymmetric information between savers and borrowers BUT MONEY MARKETS Have: n Less Regulation, and a n Top is Dec. 2008 the bottom is Sept. 2009!!! Why different? ! Cost Advantage n So banks only operate where the info advantage > reg costs n http: //www. federalreserve. gov/releases/cp/yieldcurve. gif Dec. 15, 2009 Financial Institutions & Markets, Ch. 9 8

Commercial Paper Rates 2007 Data as of December 13, 2007 Commercial Paper Rates and Outstanding Derived from data supplied by The Depository Trust & Clearing Corporation Posted December 14, 2007 Discount rates Term AA A 2/P 2 AA AA nonfinancial asset-backed 1 -day 4. 20 4. 51 4. 21 4. 70 7 -day 4. 22 4. 62 4. 16 4. 70 15 -day 4. 18 4. 65 4. 16 5. 51 30 -day 4. 21 5. 63 4. 37 6. 06 60 -day 4. 19 5. 39 4. 82 5. 98 90 -day 4. 17 5. 37 4. 94 5. 60 http: //www. federalreserve. gov/releases/cp/ Dec. 15, 2009 Financial Institutions & Markets, Ch. 9 9

Commercial Paper Rates, 2008 Data as of December 11, 2008 Commercial Paper Rates and Outstanding Derived from data supplied by The Depository Trust & Clearing Corporation Posted December 12, 2008 Discount rates Term AA A 2/P 2 AA AA nonfinancial asset-backed 1 -day 0. 05 1. 72 0. 10 0. 65 7 -day 0. 10 3. 11 0. 09 0. 89 15 -day 0. 08 3. 81 0. 30 1. 18 30 -day 0. 28 5. 11 0. 41 1. 16 60 -day n. a. 5. 28 n. a. 0. 78 90 -day n. a. 1. 29 Trade data insufficient to support calculation of the 60 -day AA nonfinancial, 90 -day A 2/P 2 nonfinancial, 60 -day AA financial, and 90 -day AA financial rates for December 11, 2008. http: //www. federalreserve. gov/releases/cp/ Dec. 15, 2009 Financial Institutions & Markets, Ch. 9 10

Commercial Paper Rates, 2009 Data as of September 22, 2009 Commercial Paper Rates and Outstanding Derived from data supplied by The Depository Trust & Clearing Corporation Posted September 23, 2009 Discount rates AA A 2/P 2 AA AA nonfinancial asset-backed Term 1 -day 0. 15 0. 31 0. 14 0. 38 7 -day 0. 10 0. 47 0. 15 0. 74 15 -day 0. 12 0. 25 0. 16 0. 43 30 -day 0. 09 0. 40 0. 18 0. 22 60 -day 0. 17 0. 37 0. 18 0. 24 90 -day 0. 21 n. a. 0. 21 0. 29 Trade data insufficient to support calculation of the 90 -day A 2/P 2 nonfinancial rate for September 22, 2009. http: //www. federalreserve. gov/releases/cp/ Dec. 15, 2009 Financial Institutions & Markets, Ch. 9 Back to “Normal” - almost 11

The Purpose of Money Markets n Place to Keep Cash (Funds) for a short time n Source for borrowers that just need funds for a short time period. n Place to earn a little on funds (cash) not in use (earning income) for a firm. n Quickly able to access these funds! Dec. 15, 2009 Financial Institutions & Markets, Ch. 9 Graph source: WSJ 12

Fed Lost Control of Fed Funds Rate? n Take a look at the last few months and notice the “Target” rate – the rate the FOMC sets n NOW look at the “Daily” rate – the rate that Banks loan “Fed Funds” on the market n There is a VAST difference lately – not before!!! Most “Fed Watchers” worry about this – that the Fed has no control! Dec. 15, 2009 Financial Institutions & Markets, Ch. 9 13

http: //www. newyorkfed. org/markets/omo/dmm/historical/fedfunds/ff. cfm Dec. 15, 2009 Financial Institutions & Markets, Ch. 9 14

Participants and Instruments n Are detailed very well in Mishkin’s Chapter 9 Power. Point Slides. n See the PPT … Commercial Paper Dec. 15, 2009 Financial Institutions & Markets, Ch. 9 15