Type of Money Market Instruments

At its heart, the global financial market – or, in fact, the various global financial markets – exist in order to assist banks and other financial institutions in lending money. They’re a connecting piece, one that links lender to borrowers, allowing for investments to change hands and capital to be used to produce new projects, invest in technology and other innovations, and build leading companies.

It’s easy to forget this, and many investors do. The idea that markets exist to be exploited or used as a way to optimize investments is fairly widely thought, even by experienced investors. Nonetheless, each investment in the markets is one that produces real results for other, largely through the use of money market instruments, which are used to finance new projects in the public and private sectors.

There are several different types of money market instruments, some of which most investors will be familiar with, and others of which many investors may know little about. In this brief guide, we will look at some of the more common types of money market instruments, and discuss how they’re used to assist investors, and how they relate to investment capital for public and private projects.

Let’s start with the money market itself. Unlike the stock market, which is a representation of all of the different public companies available for investment, the money market acts as a board of all the current loans – and the parties borrowing them – that exist for less than twelve months. In short, it’s a short-term loan investment market – one that can produce fairly rapid results for its investors.

It’s important to establish how the money market is different from other capital lending markets. An investment in a loan or other lending program of over twelve months is made on the capital market. Generally speaking, money market investments follow the same principles as capital market loans, albeit with a significantly shorter term – often as little as three or six months lending in total.

Let’s look at some of the more common forms of money market instruments. Certificates of deposit, known to many as investment CDs, are a fairly common form of low-risk investment. They’re made through a bank, for the most part, with investors locking their funds into a CD account for anywhere from three months to five years, generally in exchange for a fairly high rate of total account interest.

That’s the consumer side of a CD account, at least. On the lending side, a CD works differently and tends to produce different results. The bank that controls the certificate of deposit may use it for one of hundreds of different potential investments. At this point, the CD is considered a money market instrument – one that the bank will use to make moderate-risk investments to produce a return.

This investment-side activity is where the interest earnings on a CD account come from. It’s much like the ways in which a bank will use a savings account as capital for its own mortgages and loan activities. The difference, however, as is reflected in the higher levels of interest for a CD account, is that the investments made with money placed in a CD tend to be external and carry higher risk.

There are also money market instruments such as dealer paper – a form of promissory note issued by a bank of financial services firm. These notes are tied to a certain loan or investment, and like a money market investment, mature at a certain fate and result in the loan’s repayment. These are an alternative to investing in other loans, offering terms such as early buyback and interest discounts.

Many of these dealer paper investments are sold on secondary markets, although the bulk of trading occurs on the major money markets. It’s important to remember that, as in any other money market investment, dealer paper promissory notes are only issued for periods under one year. Generally, the longest term promissory note seen in the money markets will be based around a 360 day year.

Now, it’s tempting to think that money market instruments always carry some form or risk – in this case, as has been previously documented, a fairly high one. However, while CDs carry a moderate amount of risk and other investments a relatively high amount, there are plenty of money market instruments that carry virtually no risk, or at least a risk that’s been documented in markets before.

These can include US Treasury Bills, financial bills that represent projects started and backed by the United States government. Liquid and flexible in their investment form, these bills and both limited risk and potentially lucrative. Bills are generally issued for total purchase amounts of $10,000 up to a total of $1 million, allowing investors to purchase at bulk from Treasury Department auctions.

Treasury bills are often used as the basis of other low-risk investments and fund accounts, as they’re a worthwhile source of interest earnings yet carry limited risk of failure. Backed by the government of the United States, and in turn its large body of taxpayers, the risk of default on these investments is as close to zero as is possible, making them a secure, liquid, and worthwhile investment choice.

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