Financial Markets and Institutions (2-downloads)

Money Market Rates

The

Wall Street Journal daily publishes a listing of interest rates on many different financial instruments in its

“Money Rates” column.

The four interest rates in the “Money Rates” column that are discussed most frequently in the media are these:

Prime rate: The base interest rate on corporate bank loans, an indicator of the cost of business borrowing

from banks

Federal funds rate: The interest rate charged on overnight loans in the federal funds market, a sensitive indi-

cator of the cost to banks of borrowing funds from other banks and the stance of monetary policy

Treasury bill rate: The interest rate on U.S. Treasury bills, an indicator of general interest-rate movements

Federal Home Loan Mortgage Corporation rates: Interest rates on “Freddie Mac”—guaranteed mortgages,

an indicator of the cost of financing residential housing purchases

F O L L O W I N G   T H E   F I N A N C I A L   N E W S

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Chapter 11 The Money Markets

275

Source: Wall Street Journal. Copyright 2010 by DOW JONES & COMPANY, INC. Reproduced with permission of DOW JONES &

COMPANY, INC. via Copyright Clearance Center.

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Part 5 Financial Markets

In this example FV = $1000, the interest rate = 0.02, and the period until maturity

is 1, so

Note what happens to the price of the security as interest rates rise. Since we are

dividing by a larger number, the current price will decrease. For example, if inter-

est rates rise to 3%, the value of the security would fall to $970.87 [$1,000/(1.03) =

$970.87].

This method of discounting the future maturity value back to the present is the

method used to price most money market securities.

Price

⫽

$1,000

11 ⫹ 0 .022

⫽ $980.39

TA B L E   1 1 . 4

Money Market Securities and Their Markets