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Money Market Transactions

A money market transaction involves the buying and selling of short-term debt instruments with maturities typically less than a year. Money market deal can vary in terms of interest payment and maturity.  

Simple Interest Calculations

Formula:

Simple interest earned = principal amount x interest rate x days/year.

Maturity proceeds = principal proceeds = principal amount x (1+(interest rate x days/year))

Problem 1

Assume that you place £2 million on deposit at 5.5% for 90 days. As the 8% is generally quoted as if for a whole year rather than for only 90 days, the interest you expect to receive is the appropriate proportion of 5.5%.

Solution: 

£2,000,000 x 0.055 x 90/365 = £27,170

The total proceeds after 90 days are therefore the return of the principal, plus the interest:

£2,000,000 + £27,170 = £2,027,170

Alternatively,

£2,000,000 x (1+(0.055 x 90/365)) = £2,027,170.

Formula:

Simple interest earned = principal amount x interest rate x days/year.

Maturity proceeds = principal proceeds = principal amount x (1+(interest rate x days/year))

Problem 2

If you deposit $2,000,000 for 120 days at 5.5%, you receive interest of:

$2,000,000 x 0.05 x 120/360 = $33,400

Alternatively,

£2,000,000 x (1+(0.055 x 120/360) = $33,400 + $2,000,000 = £2,033,400

The solution is the reverse of how the calculated end proceeds above:

$2,033,400 /(1+(0.055 x 120/360)) = $2,000,000

Formula:

Yield = (Cash at the end/Cash flow at the start – 1) x Year/Days

Problem 3

You purchase Computer Hardware for €35,950. You keep the Computer Hardware for 180 days. You then sell it for €37,550. What yield have you made on this investment?

Solution:

Yield = (35,950/37,550 – 1) x 365/180 = -0.086 or -8.6%.

The solution resulted in a negative yield, which means a loss.

Problem 4

You borrow $357,868.25 for 215 days. At the end, you repay a total of $369,315.45. What is the total cost of this borrowing? 

Yield = (357,868.25/369,315.45 – 1) x 360/215 = 5.2%.