Financial Markets & Services - Unit II

Financial Markets & Services - Unit II

• Money Market is a market for financial assets similar to cash.
• It offers short-term funds (overnight to less than one year).
• Major participants: Commercial banks, other financial intermediaries, large corporations, and the Reserve Bank of India (RBI).

Functions of Money Market

• Enhances the profit of financial institutions by providing profitable investment opportunities for short-term funds.
• Improves liquidity for the entire country.
• Prevents wide seasonal fluctuations in interest rates.
• Facilitates transfer of funds across regions.
• Increases the supply of funds with various credit instruments.

Objectives of Money Market

• Provides short-term funds to borrowers at reasonable rates.
• Converts savings and idle funds into effective investments.
• Allows the RBI to regulate the level of liquidity.
• Facilitates short-term funding needs for companies and corporations.
• Assists the government in implementing monetary policies.

Instruments of Money Market - Treasury Bills

• Short-term instruments issued by the Government of India.
• Used to manage short-term liquidity shortages.
• Used to bridge seasonal/temporary revenue and expenditure gaps.
• First issued in India in 1917.
• Negotiable securities
• High liquidity and no default risk.
• Currently available in 14-day, 91-day, 182-day, and 364-day tenures.
• Auctioned by the RBI every alternate Wednesday.
• Available in multiples of Rs. 25,000.
• Zero coupon securities; issued at a discount and redeemed at face value at maturity.

Instruments of Money Market - Commercial Paper

• Unsecured short-term promissory notes.
• Introduced in India in January 1990.
• Negotiable and transferable by endorsement and delivery with a fixed maturity period.
• Issued at a discount by creditworthy and highly rated corporates.
• Issued in large denominations (e.g., Rs. 5 lakh in India or $100,000 in the U.S.).
• Minimum maturity of 7 days and a maximum of 1 year.

Participants of Money Market - Commercial Paper

• Highly rated corporate borrowers and private sector companies.
• Primary Dealers
• NBFCs (Non-Banking Financial Companies)
• Minimum tangible net worth of Rs. 4 crores.
• Minimum current ratio of 1.33:1 (as per RBI guidelines).
• Listed on a stock exchange.
• Credit rating from a SEBI-registered credit rating agency
• Minimum investment amount Rs. 5 Lakhs.

Certificate of Deposit (CDs)

• Short-term deposit instruments issued by banks and financial institutions.
• Issued in the form of usance promissory notes.
• Negotiable and transferable.
• India introduced CDs in 1989.
• Available in India for a minimum of ₹1 lakh and subsequent multiples of it.
• Issued by Scheduled Commercial Banks (SCBs) and All-India Financial Institutions.
• Cooperative Banks and Regional Rural Banks (RRBs) cannot issue CDs.
• Term period between 7 days and 3 years for SCBs.

Advantages of Commercial Paper

• Simple process with minimal documentation.
• Flexible maturities to match cash flow needs.
• Easier to raise long-term capital.
• Higher returns compared to banking system.

Advantages of Certificates of Deposit (CDs)

• Secure investment.
• Predictable growth.
• No risk of loss from market volatility.
• High-interest rates.
• Low maintenance costs.

Advantages of Call Money Market

• High liquidity.
• High profitability when call rates are volatile.
• Facilitates meeting of SLR (Statutory Liquidity Ratio) requirements.
• Safe transactions due to strong financial standing of participants.
• Assists central bank open market operations efficiently.

Disadvantages of Indian Money Market

• Existence of unorganized segment (indigenous bankers).
• Lack of integration of different segments.
• Disparity in interest rates.
• Seasonal diversity creating fluctuations in interest rates.
• Lack of proper bill market.
• Limited instruments and secondary markets.
• Limited participation.
• Uneven development geographically (e.g., confined to industrial centers).
• Call money rate volatility (ranging from 12% to 85%).

Commercial Bill

• Short-term, negotiable, and self-liquidating instrument.
• Used to finance credit purchases.
• Liquidity: convertible into cash readily.
• Certainty of payment.
• Simple legal remedy for dishonor.
• Ideal for short-term investment.
• High and quick yield.