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Money market & its instruments


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Published in: Economy & Finance, Business
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Money market & its instruments

  1. 1. As per RBI definitions “ A market for short terms financial assets that are close substitute for money, facilitates the exchange of money in primary and secondary market”. The money market is a mechanism that deals with the lending and borrowing of short term funds (less than one year). A segment of the financial market in which financial instruments with high liquidity and very short maturities are traded.
  2. 2.  It doesn’t actually deal in cash or money but deals with substitute of cash like trade bills, promissory notes & govt papers which can converted into cash without any loss at low transaction cost. It includes all individual, institution and intermediaries.
  3. 3.  It is a market purely for short-terms funds or financial assets called near money. It deals with financial assets having a maturity period less than one year only. In Money Market transaction can not take place formal like stock exchange, only through oral communication, relevant document and written communication transaction can be done.
  4. 4.  Transaction have to be conducted without the help of brokers. It is not a single homogeneous market, it comprises of several submarket like call money market, acceptance & bill market. The component of Money Market are the commercial banks, acceptance houses & NBFC (Non-banking financial companies).
  5. 5.  To provide a parking place to employ short term surplus funds. To provide room for overcoming short term deficits. To enable the central bank to influence and regulate liquidity in the economy through its intervention in this market. To provide a reasonable access to users of short-term funds to meet their requirement quickly, adequately at reasonable cost.
  6. 6. o Development of trade & industry.o Development of capital market.o Smooth functioning of commercial banks.o Effective central bank control.o Formulation of suitable monetary policy.o Non inflationary source of finance to government.
  7. 7. Money Market consists of a number of sub- markets which collectively constitute the money market. They are, Call Money Market Commercial bills market or discount market Acceptance market Treasury bill market
  8. 8. A variety of instrument are available in a developed money market. In India till 1986, only a few instrument were available.They were• Treasury bills• Money at call and short notice in the call loan market.• Commercial bills, promissory notes in the bill market.
  9. 9. Now, in addition to the above the following new instrument are available: Commercial papers. Certificate of deposit. Bankers Acceptance Repurchase agreement Money Market mutual fund
  10. 10.  Call money market is that part of the national money market where the day to day surplus funds, mostly of banks are traded in. They are highly liquid, their liquidity being exceed only by cash. The loans made in this market are of the short term nature.
  11. 11. Continued…….. Banks borrow from other banks in order to meet a sudden demand for funds, large payments, large remittances, and to maintain cash or liquidity with the RBI. Thus, to the extent that call money is used in India for the purpose of adjustment of reserves.
  12. 12.  Scheduled commercial banks Non-scheduled commercial banks Foreign banks State, district and urban, cooperative banks Discount and Finance House of India (DFHI) Securities Trading Corporation of India (STCI).The DFHI and STCI borrow as well as lend, likebanks and primary dealers, in the call market.
  13. 13.  The rate of interest paid on call loans is known as call rate. Call rate is highly variable from day to day, often from hour to hour. It is very sensitive to changes in demand for and supply of call loans. Eligible participants are free to decide on interest rates in call/notice money market. Calculation of interest payable would be based on FIMMDA’s (Fixed Income Money Market and Derivatives Association of India).
  14. 14.  CALL RATE IN INDIA has reached as high a level as 30% in December 1973. It is an alarming level for any short-term rate of interest to reach, and as bank defaulted in a major way in respect of cash and liquidity requirements at that time due to the prohibitively high cost of call money, it became necessary to regulate call rates within reasonable limits. Indian Banks’ Association (IBA) in 1973 fixed a ceiling of 15% on the level of call rate.
  15. 15. Continued…… The IBA lowered this ceiling of 15% to 12.5% in March 1976, 10 % in June 1977, and 8.6% in March 1978, and 10.0% in April 1980. And current call rate in India is 8%. There are now two call rates in India: one, the interbank call rate, and the other, the lending rate of DFHI.
  16. 16.  DEALING SESSION Deals in the call/notice money market can be done up to 5.00 pm on weekdays and 2.30 pm on Saturdays or as specified by RBI from time to time. LOCATION OF CALL MONEY MARKET IN INDIA Mumbai, Calcutta, Chennai, Delhi, and Ahmadabad.
  17. 17.  Treasury bills (TBs), offer short-term investment opportunities, generally up to one year. They are thus useful in managing short-term liquidity. Types of treasury bills through auctions 91- Day, 182- day, 364- day, and 14- day TBs
  18. 18.  Treasury bills are not self-liquidating in the way genuine trade bills are, although the degree of their liquidity is greater than that of trade bills. If we were to arrange short-term financial instruments according to their liquidity, the descending order would be cash, call loans, treasury bills and commercial bills.
  19. 19.  Treasury bills are highly liquid because there cannot be a better guarantee of repayment then the one given by the government and because the central bank of country is always willing to purchase or discount them. As unlike ordinary trade bills, treasury bills are claims against the government, they do not require any gardening or further endorsement or “acceptance”
  20. 20.  The high liquidity Absence of risk of default Ready availability Assured yield Low transaction cost Eligibility for inclusion in statutory liquidity ratio (SLR) Negligible capital depreciation
  21. 21.  Ordinary TBs Ad hoc TBs The ordinary TBs are issued to the public and the RBI for enabling the government to meet the needs of supplementary short-term finance. TBs, also known as ad hocs in short, has been discontinued through the signing of two agreements between the government and the RBI.
  22. 22.  The instrument of ad hoc Treasury bill and the system of issuing it were introduced in India in 1937. Government shall maintain with the RBI a cash balance of not less than Rs.50crore on Fridays and Rs.4 crore on other days free of obligation to pay interest.
  23. 23.  whenever the balance falls below these minimums, the government account would be replenished by the creation of ad hocs in favour of the RBI. The government issued these bills to replenish their cash balance. They also provide a medium to the state governments, semi-governments, and foreign central banks to invest their temporary surpluses.
  24. 24.  With a view to widening the short-term money market, and to providing more outlets for temporary surplus fund, the authorities in India had introduced, in November 1986, a major innovation in the form of new money market instrument- the 182-day Treasury bill. It used to be sold in the market by the RBI in auctions which were monthly in the beginning; they were made fortnightly from July 1988.
  25. 25. Continued…….. It is important to note that no specific amount of funds was sought to be raised through the auctions of these bills. The amount raised in each auction suspended upon the funds available with the market participants, and the funds they desired to invest in these bills. Thus, the new bill had become a handy instrument for banks, financial institution.
  26. 26.  The 182-day bills could be purchased by any person resident in India, including individuals, firms, companies, banks, and financial institutions. The 182-day bill was quit liquid because of the availability of refinance facility against it and the existence of the secondary market in it.
  27. 27.  Upon discounting the 182-day Treasury bill the authorities introduced a new money market instrument, namely 364-day TBs with effect from April 1992. It is being auction regularly every fortnight. Its features are very similar to those which the 182-day bill had. The RBI dose not purchase and rediscount this bill.
  28. 28. With a view to further diversify the TBs market; the authorities have introduced recently two types of 14-day TBs: On April 1, 1997 which is known as intermediate treasury bill (ITB) Second on may 20, 1997.ITB has replaced the 91-day tap Treasury bill.
  29. 29. Continued…….. It is sold only to state governments, foreign central banks, and other specified bodies in order to provide them with alternate arrangements in place of 19-day tap TBs for investment of their temporary cash surplus. It is issued in a book entry from i.e. by credit to subsidiary general ledger account. It can be repaid/renewed at par on the expiration of 14 days from the date of issue. The disadvantage of 14-day ITB is that it is not tradable or transferable.
  30. 30.  Treasury bills are available for a minimum amount of Rs.25,000 and in multiples of Rs. 25,000. Treasury bills are issued at a discount and are redeemed at par. Treasury bills are also issued under the Market Stabilization Scheme (MSS). 91-day T-bills are auctioned every week on Wednesdays. 182-day and 364-day T-bills are auctioned every alternate week on Wednesdays.
  31. 31.  T-bills auctions are held on the Negotiated Dealing System (NDS) and the members electronically submit their bids on the system. DEFECTS OF TREASURY BILLS Poor Yield Absence of Competitive Bids Absence of Active Trading
  32. 32. Type of Day of Day ofT-bills Auction Payment*91-day Wednesday Following Friday182-day Wednesday of non- Following Friday reporting week364-day Wednesday of Following Friday reporting week
  33. 33.  Funds for working capital required by commerce and industry are mainly provided by banks through cash credits, overdrafts, and purchase/discontinuing of commercial bills. BILL OF EXCHANGE The financial instrument which is traded in the bill market of exchange. It is used for financing a transaction in goods that takes some time to complete.
  34. 34.  It shows the liquidity to make the payment on a fixed date when goods are bought on credit. Accordingly to the Indian Negotiable Instruments Act, 1881, it is a written instrument containing as unconditional order, signed by the maker, directing a certain person to pay a certain sum of money only to, or to the order of, a certain person, or to the bearer of the instrument.
  35. 35.  INLAND BILLS Be drawn or made in India, and must be payable in India Be drawn upon any person resident in India FOREIGN BILLS Drawn outside India and may be payable in and by a party outside India, or may be payable in India or drawn on a party resident in India Drawn in India and made payable outside India. A related classification of bills is export bills and import bills
  36. 36.  Commercial bills may be used for financing the movement and storage of goods between countries, before export (pre-export credit), and also within the country. In India the use of bill of exchange appears to be in vogue for financing agricultural operations, cottage and small scale industries, and other commercial and trade transactions.
  37. 37.  Apart from the genuine bill of exchange, i.e. bills which evidence sale and /or dispatch of goods, there are other bills which are known to the money market. They are accommodation bills and supply bills. As “accommodation bill” is defined as one in which a person, called as accommodation party, puts his name (accept it) to accommodate another person without receiving and consideration. Such bill is sometimes called, a kite or wind bill.
  38. 38.  A bankers acceptance is a short-term investment plan created by a company or firm with a guarantee from a bank. It is a guarantee from the bank that a buyer will pay the seller at a future date. A good credit rating is required by the company or firm drawing the bill. This is especially useful when the credit worthiness of a foreign trade partner is unknown.
  39. 39.  The terms for these instruments are usually 90 days, but this period can vary between 30 and 180 days. Companies use the acceptance as a time draft for financing imports, exports and trade. In India, there are neither specialised acceptance agencies for providing this service on a commission basis nor is it provided to any significant extent by commercial banks. Under the bill market schemes introduced by RBI in 1952, banks are required to select the borrowers after careful examination of their means, respectability, and dealings for conversion of their advances in to bills.
  40. 40.  Banks maintain opinion registers on different drawers of bills and they get reports from time to time on these drawers of bills. BA acts as a negotiable time draft for financing imports, exports or other transactions in goods. Acceptances are traded at discounts from face value in the secondary market. BA’s are guaranteed by a bank to make payment.
  41. 41.  DISCOUNTING SERVICE The central banks help banks in their liquidity management by providing them discounting and refinancing facilities. The RBI are in abundance liquidity (funds) to banks on occasions when liquidity shortages threaten economic stability. The central bank performs his function through its discount window or discounting mechanism.
  42. 42.  Bank borrow funds temporarily at the discount window of the central bank. They are permitted to borrow or are given the privilege of doing so from the central bank against certain types of eligible paper, such as the commercial bill or treasury bill, which the central bank stands ready to discount for the purpose of financial accommodation to banks.
  43. 43.  The question of setting up of discount house in India was considered by the banking commission in the early 1970s. DISCOUNT HOUSE FUNCTION It should be the sole depository of the surplus liquid funds of the banking system as well as the non-banking financial institutions.
  44. 44.  It should use surplus funds to even out the imbalance in liquidity in the banking system subject to the RBI guidelines. It should create ready market for commercial bills, treasury bills, and government guaranteed securities by being ready to purchase from and sell to the banking system such securities.
  45. 45.  Commercial Paper (CP) is an unsecured money market instrument issued in the form of a promissory note. It was introduced in India in 1990 with a view to enabling highly rated corporate borrowers/ to diversify their sources of short-term borrowings and to provide an additional instrument to investors.
  46. 46.  Only company with high credit rating issues CP’s Subsequently, primary dealers and satellite dealers were also permitted to issue CP to enable them to meet their short-term funding requirements for their operations. Primary dealers (PDs) and the All-India Financial Institutions (FIs) are eligible to issue CP. CP is very safe investment because the financial situation of a company can easily be predicted over a few months.
  47. 47.  CP can be issued for maturities between a minimum of 15 days and a maximum up to one year from the date of issue. The aggregate amount of CP from an issuer shall be within the limit as approved by its Board of Directors or the quantum indicated by the Credit Rating Agency for the specified rating, whichever is lower. As regards FIs, they can issue CP within the overall umbrella limit fixed by the RBI i.e., issue of CP together with other instruments viz., term money borrowings, term deposits, certificates of deposit and inter-corporate deposits should not exceed 100 per cent of its net owned funds, as per the latest audited balance sheet.
  48. 48.  Only a scheduled bank can act as an IPA for issuance of CP. Individuals, banking companies, other corporate bodies registered or incorporated in India and unincorporated bodies, Non- Resident Indians (NRIs) and Foreign Institutional Investors (FIIs) etc. can invest in CPs. Amount invested by single investor should not be less than Rs.5 lakh (face value). However, investment by FIIs would be within the limits set for their investments by Securities and Exchange Board of India
  49. 49.  CP will be issued at a discount to face value as may be determined by the issuer. The investor in CP is required to pay only the discounted value of the CP by means of a crossed account payee cheque to the account of the issuer through IPA.
  50. 50.  With a view to further widening the range of money market instruments and give investors greater flexibility in deployment of their short- term surplus funds, Certificates of Deposit (CDs) were introduced in India in 1989. Certificate of Deposit (CD) is a negotiable money market instrument and issued in dematerialised form or as a Usance Promissory Note against funds deposited at a bank or other eligible financial institution for a specified time period
  51. 51.  Scheduled commercial banks excluding Regional Rural Banks (RRBs) and Local Area Banks (LABs) Select all-India Financial Institutions that have been permitted by RBI to raise short-term resources within the umbrella limit fixed by RBI.
  52. 52.  Banks have the freedom to issue CDs depending on their requirements. An FI may issue CDs within the overall umbrella limit fixed by RBI, i.e., issue of CD together with other instruments, viz., term money, term deposits, commercial papers and inter-corporate deposits should not exceed 100 per cent of its net owned funds, as per the latest audited balance sheet.
  53. 53.  Minimum amount of a CD should be Rs.1 lakh, i.e., the minimum deposit that could be accepted from a single subscriber should not be less than Rs.1 lakh and in the multiples of Rs. 1 lakh thereafter. INVESTORSCDs can be issued to individuals, corporations, companies, trusts, funds, associations, etc. Non- Resident Indians (NRIs) may also subscribe to CDs, but only on non-repatriable basis, which should be clearly stated on the Certificate. Such CDs cannot be endorsed to another NRI in the secondary market.
  54. 54.  The maturity period of CDs issued by banks should be not less than 7 days and not more than one year. The FIs can issue CDs for a period not less than 1 year and not exceeding 3 years from the date of issue.
  55. 55.  CDs may be issued at a discount on face value. Banks / FIs are also allowed to issue CDs on floating rate basis provided the methodology of compiling the floating rate is objective, transparent and market-based. Banks have to maintain appropriate reserve requirements, i.e., cash reserve ratio (CRR) and statutory liquidity ratio (SLR), on the issue price of the CDs. CDs in physical form are freely transferable by endorsement and delivery.
  56. 56. I :- ORGANISED STRUCTURE 1. Reserve bank of India. 2. DFHI (Discount And Finance House of India). 3. Commercial banks i. Public sector banks SBI with 7 subsidiaries Cooperative banks 20 nationalised banks ii. Private banks Indian Banks Foreign banks 4. Development bank IDBI, IFCI, ICICI, NABARD, LIC, GIC, UTI etc.
  57. 57. II. UNORGANISED SECTOR 1. Indigenous banks 2 Money lenders 3. Chits 4. NidhisIII. CO-OPERATIVE SECTOR 1. State cooperative i. central cooperative banks Primary Agri credit societies Primary urban banks 2. State Land development banks central land development banks Primary land development banks