Investments Short Term. Short Term Investments There are many ways to invest. A selection is shown below Certificates of Deposit - Eurodollar - Sterling.

Investments

Short Term

Short Term Investments

There are many ways to invest. A selection is shown below

• Certificates of Deposit - Eurodollar - Sterling • Commercial Paper - Euro - Sterling• UK Treasury Bills/ US Treasury bills• Bills of Exchange• Money Market Funds• Money Market Deposit

Short Term Investments

• We need to be careful about the convention used to quote yields, there is more than one.

• Using the same instrument– Face value USD 1,000,000– Discount Rate 5 % (.05)– Tenor 91 days

Short Term Investments

• To find discount amount

1,000,000 x .05 x 91/360 = 12,638.89

Purchase price (or proceeds)

1,000,000 – 12,638.89 = 987,361.11

Short Term InvestmentsDiscount Rate

• Discount rate =

• Discount Amount x 360 or 365

Face Value Days to Maturity

12,638.89 x 360 = 5.00 %

1,000,000 91

Short Term InvestmentBond Equivalent Yield

(BEY)• BEY = Applies an actual /365 day count

Discount Amount x 365 x 100

Purchase Price 91

12,638.89 x 365 x 100 = 5.134

987,367.11 91

Short Term InvestmentsMoney Market Yield

MMY• MMY

• Discount Amount x 360 x 100

Purchase Price Days to Maturity

12,638.89 x 360 x 100 = 5.064

987,361.11 91

Investments

• Certificate of Deposit Receipts issued by domestic banks, building

societies and foreign banks in London as evidence of a deposit of GBP (or eurodollars) for a stated period of time at a stated rate of interest.

GBP50,000 and then 10,000 USD 25,000 and then 1,000 One month to five years Secondary market

Certificates of Deposit

• Proceeds of a CD, example

GBP CD issued for one year at a face value of 1,000,000 and an interest rate of 7%.

End value = 1,070,000

Sold with 75 days to run with interest rates at 6%

1,070,000 = 1,056,968.9

1+ .06 x 75

365

Commercial Paper

• Short-term unsecured promissory notes issued by corporations as evidence of funds lent to those corporations. A promissory note is an unconditional promise by the note maker to pay at a specified future time, a certain amount of money to a designated person or to the bearer of the note.

Commercial Paper

• Typically unsecured so need a good rating• Issued with face value payable at maturity• Discounted at the current market yield• E.g. Sterling CP, maturity 7-364 days, min

GBP100,000 and the norm GBP1,000,000.• Price = Face Value

1+ yield x days to maturity

365

Commercial Paper

• Example• Xco Issues SCP with face value of

£10,000,000, a life of 92 days and a yield of 4.5%

• Proceeds = 10,000,000 1+ 0.045 x 92 365 = 9,887,848

Treasury Bills

• UK Treasury Bills are obligations of the British Government issued on a weekly basis by and payable at, the Bank of England. Issued in denominations of GBP 5,000/10,000/25,000/50,000 and 250,000. Normally repayable 91 days after issue but maturity can be from one day to 364 days. Issued at a discount and in book form.

• Regarded as the most liquid of money market instruments.

Treasury Bills

• Need to be careful as T Bills could be settled on: -• A Yield to Discount basis P = N x 1 – n x y 360/365P = Settlement proceedsN = Nominal or Face valuey = yield, quoted as a percentagen = number of calendar days from the settlement date to maturity

T BillsYield to Discount Basis

• US T-bill purchase where– N = 1,000,000– y = discount yield of1.64– n = 101

.9953989

P = 1,000,000 x 1- .0164 x 101 = 995,398.9

360

Treasury Bills

Or

• Money Market basis

• P = N

1 + y x n

360/365

T-BillsMoney Market Basis

• N = 1,000,000• y = 1.64• n = 101

P = 1,000,000

1 + 0.0164 x 101 = 995,419.97

360

1.0046011

Bills of Exchange(Bankers Acceptance)

• A Bill of Exchange is a negotiable discount security with a face value payable at a date in the future. Bills discounted at the lowest discount rates are those accepted by an Eligible Bank. This is called a Banker’s Acceptance. Eligible Bills must have a life of less than 186 days. Self Liquidating.

Bills of Exchange

• Example. A Bill with a face value of GBP1,000,000 is issued for 182 days at a rate of 4.5% pa. What is the return to the investor?

• 1,000,000 x .045 x 182/365 = 22,438• Therefore invest today 977,562• Yield is 22,438/977,563 x 365/182 = 4.6032• Or 4.5/1-(.045x182/365) = 4.6032

Money Market Funds

• A Money Market Fund is a stand alone pooled investment vehicle which actively invests its assets in a diversified portfolio of high grade, short term money market instruments and which is governed by the three fundamental principles of Safety, Liquidity and Yield.

• Minimum investment amounts tend to be lower than in wholesale money markets. GBP 100,000 or lower.

Caveats for Investments

• In order to determine the yield of an investment it is important to know whether you are dealing with an instrument that pays on the basis of:

– Coupon/simple interest – one payment of interest at maturity

– Discount – invest a discounted amount and receive face value at maturity

– Yield to redemption - multiple interest payments are made throughout the life of the investment

Caveats for Investments

Coupon or Simple Interest

Interest = Principal x Interest Rate x Days

365 ** Or 360

EXAMPLE: A three month (90 day) time deposit for £100,000 earning 10% will earn?

Caveats for Investments

Discount Instruments

Annualised Return = Discount Amount x 365 * x 100 Price Paid Days

* Or 360

EXAMPLE: A bank bill is issued in the UK at 97.70 for 3 months (90 days). 100 will be received at maturity. What is the annualised return?

2.3 x 365 x100 = 9.547 97.7 90

Caveats for Investments

• 360 or 365 days basis

• To convert 360 to 365

rate x 365

360

• e.g 9 % on 360 day basis 9 x 365 = 9.125

360

And for 365 to 360 rate/365 x 360 =