Investments
Short Term
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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
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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
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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
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Short Term Investments
Discount 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
5
Short Term Investment
Bond 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
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Short Term Investments
Money 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
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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
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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
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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.
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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
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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
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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.
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Treasury Bills
• Need to be careful as T Bills could be settled on: • A Yield to Discount basis
P=Nx 1– nxy
360/365
P = Settlement proceeds
N = Nominal or Face value
y = yield, quoted as a percentage
n = number of calendar days from the settlement
date to maturity
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Treasury Bills
Or
• Money Market basis
• P=
N
1+ yxn
360/365
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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.
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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
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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.
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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
– SLY principle should drive policy
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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?
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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
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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 =
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