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UA FI 301 - Exam 2 Study Guide
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FI 301 1st EditionExam # 2 Study Guide Lectures: 9-16Chapter 61. Money Market Securities1. Market securities mature less than a year it tells you that the yield is very small. They are a huge investment tool because you can put a lot of money in it and sill make a lot of money, diversifies risk, (companies)risk adverse investors, Large corps and organizations invest in these, sometimes senior citizens- invest for safe investment 2. Primary market- issued by investment brokers and commercial banks3. Short term4. They are a liquid investment you are not going to loose money in most cases 99%are paid2. Treasury Bills 1. Money market security issued for a year or less2. Also a 52 week bill3. Treasury notes are between 2 and 10 year investment4. Treasury bonds are over 10 years5. The FED issues these, this is their debt6. If you are making 5 dollars in interest you give them 9555 then they give you 1000 back 7. They are free from default risk because it is backed by the FED8. HIGHLY LIQUID, mostly commercial and foreign investors invest China, Japan9. Depository institution10. Maturity matching- they're trying to make money on assets while they are payingoff their liabilities similar to interest on your savings account11. This cash flow issue occurs because banks can lend out all their money and get more from the government, they may take on too much debt12. Safety, sure return, cover cash flow13. Treasury Bill Auction (Exhibit 6.2)1. Investors can submit bids online for newly issued T-bills at www.treasurydirect.gov.2. Investors have the option of bidding competitively or noncompetitively.3. Once every 2 weeks 4. Competitive= $1,000 or more- bid on interest rates , I want to get paid 1 %, 1.5%, 2%, 3%, $40 billion in bids 2% everyone gets paid high bid below 2 cause it gets cut off at 2%, 5. Noncompetitive= $5 million, we will take whatever interest rate you pay. They just give you any interest rate such as 2%. You would do this because; you are going to get paid for sure this way.14. Estimating the yield1.period) (holding investment theof days ofnumber price purchaseprice sellingwhere365nPPSPnPPPPSPYT15. Estimating the discount1.nParPPParYT3603. Commercial Paper1. Huge form of debt for corporations, very short term note ( basically 270 days or less) Big companies are borrowing company to cover things like inventory and cash flow ( or other debts)2. Unsecured- no assets backing3. 270 days or less don’t have to report to the SEC, saves a lot of paperwork if they borrow for a short period of time4. The minimum denomination of commercial paper is usually $100,000.5. Maturities are normally between 20 and 45 days but can be as short as 1 day or as long as 270 days.6. Ratings1. Assigned by rating agencies. Who are these agencies again?1. S&P, Moodys and FITCH- established ratings, grades commercial paper default risk about 99%2. Serves as an indicator of the potential risk of default.7. Credit Risk during the Credit Crisis1. Historically the % of issues that have defaulted is very low.2. During the credit crisis in 2008, one very large company made headlines by failing due to commercial paper. Who was it?1. First companies that defaulted- Fannie Mae, Leiman Brothers, Citigroup, Countrywide ( bought out by bank of america), AIG 2. Borrowing money to invest- financial leverage8. Backing Commercial Paper1. Some backed by assets of the issuer (secured loans). Which would offer the investor a higher yield? (secured or unsecured)2. Issuers of commercial paper typically maintain backup lines of credit. What is a line of credit?3. General motors goes to securities firm like merill lynch I need 500 million they go to pension funds and investors and ask them to buy it 4. Not traded on an exchange its over the phone (over the counter trade)5. Some are secured and some are unsecured unsecured pays the higher yield9. Placement Firms place commercial paper directly with investors or rely on commercial paper dealers to sell their commercial paper.10. Estimating the Yield Commercial paper does not pay interest and is priced at a discount from par value like a T-Bill. Which pays a higher yield and why? Commercial paper pays higher Certificate of deposit- make it at a bank, pay low amount11. Commercial Paper Yieldi. Ycp = ((Par – PP)/PP x (360/n)4. Negotiable Certificates of Deposit 1. NCD is a investment of the bank. A CD works by you plan for a certain amount of time and you get a yield on it 2. Short term investment, many of them are a year or less NCD period is the amount of money have to be at least 100,000, can be sold to investors, NCD with corporation3. Need CDS because they are a good investment to diversify with senior citizens like CDs4. Placement Some issuers place their NCDs directly; others use a correspondent institution that specializes in placing NCDs.5. Premium Offer a premium above the T-bill yield in order to compensate for less liquidity and safety.6. Yield Provide a return in the form of interest along with the difference betweenthe price at which the NCD is redeemed (or sold in the secondary market)and the purchase price.PPPPSPYNCDinterest5. Repurchase Agreements1. Fed uses them, we buy them temporarily, and they buy or sell them back quickly (can be overnight or up to 2 weeks) they are trying to temporarily increase the money supply2. 2- they participate in repos because they solve liquidity issues, this says that theyre low on cash, they may need to borow money for a short time before they get cash flow3. From fed to corp to banks, huge market4. Solve short term liquidity problems5. Placement Negotiated through a telecommunications network. Dealers and repo brokers act as financial intermediaries to create repos for firms with deficient or excess funds, receiving a commission for their services.6. Impact of the Credit Crisis Many financial institutions that relied on the market for funding were not able to obtain funds. Investors became more concerned about the securities that were posted as collateral7. Estimating the YieldnPPPPSP 360rate Repo  YT for treasury yield YR for repo rate Bear Sterns- defaulted on their repurchase agreements, they were borrowing money to invest using financial leverage6. Federal Funds1. This rate is the rate banks loan to each other (federal funds rate)2. Discount rate is rate fed loans to banks3. Federal funds is rate at what banks lend to


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