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Chapter 7

Chapter 7. Money Markets. Treasury Bills. Pricing of Treasury Bills: Treasury bills are priced on a bond-equivalent yield basis. The bond-equivalent yield, Y BE , is the annualized difference between the face value and the purchase price of the bill.

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Chapter 7

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  1. Chapter 7 Money Markets

  2. Treasury Bills • Pricing of Treasury Bills: • Treasury bills are priced on a bond-equivalent yield basis. The bond-equivalent yield, YBE, is the annualized difference between the face value and the purchase price of the bill. Dr. HishamHandalAbdelbaki - FIN 221 - Chapter 7

  3. 1- the formula for the bond equivalent yield (ybe) : Where Pf is the face price, P0 is the purchase price and n is the number of days to maturity. 2- the formula for purchase price on bond equivalent yield basis: Dr. HishamHandalAbdelbaki - FIN 221 - Chapter 7

  4. Example 1: You are given the following data: Face price = 10,000, buying price = 9760, days to maturity = 100. what is the yield on a bond – equivalent basis? Solution YBE = [(Face Value - Price)/Price] x [(365/Days to Maturity) ] x 100% YBE = [(10000 – 9760) / 9760] [365 / 100] [100%] = (0.025 )(3.65)(100%) = 8.9% Dr. HishamHandalAbdelbaki - FIN 221 - Chapter 7

  5. Example 2: You are given the following data: Face price = 10,000, days till maturity = 91 and yield = 8.19%. what is buying price on a bond – equivalent basis? Solution Price = [face price] / [1 + (YBE * days to Maturity / 365) = 10000 / 1.0204 = 9800 Class work In example 1, assume the purchase price is unknown and calculate it by using other information. Dr. HishamHandalAbdelbaki - FIN 221 - Chapter 7

  6. Repurchase Agreements (Repos) • Repo is the sale of a short-term security (collateral) and buying it back in the future at a predetermined (higher) price. • Reverse Repois thepurchase of a short-term security (collateral) and selling it back in the future a predetermined (higher) price. • Repos and reveres repos are just opposite sides of the same transaction. • Repos are used by the Federal Reserve in open market operations. Dr. HishamHandalAbdelbaki - FIN 221 - Chapter 7

  7. The formula for the repo yield (yrepo) or interest rate is: Where Prepo = repurchase price of the security, which equals the selling price plus interest. P0 = sale price of the security N = number of days to maturity Dr. Hisham Handal Abdelbaki - FIN 221 - Chapter 7

  8. Commercial Papers • Characteristics of Commercial Papers • Maturity up to 270 days • Unsecured securities issued by high-quality borrowers, but backed by lines of credit from banks to support or guarantee quality. • Large denominations - $100,000 and up • Sold at a discount from par Dr. HishamHandalAbdelbaki - FIN 221 - Chapter 7

  9. 1- the formula for the bond equivalent yield (ybe) : Where Pf is the face price, P0 is the purchase price and n is the number of days to maturity. 2- the formula for purchase price on bond equivalent yield basis: Dr. Hisham Handal Abdelbaki - FIN 221 - Chapter 7

  10. Creating a Banker's Acceptance • Importer wants to make a purchase from foreign exporter, payable in the future. • Importer needs financing; exporter needs guarantee of payment in future. • Importer's bank writes a letter of credit for exporter that specifies purchase order and authorizes exporter to draw time draft on bank. • Exporter draws the draft on the importer's bank and collect its money. • The importer’s bank accepts the draft and creates a banker's acceptance. Dr. HishamHandalAbdelbaki - FIN 221 - Chapter 7

  11. The Sequence of a Banker’s Acceptance Transaction Dr. HishamHandalAbdelbaki - FIN 221 - Chapter 7

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