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Money Market Valuation

A money market transaction entails the buying and selling of short-term debt instruments (amortized cost, under IFRS 9) 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 proceed = Principal amount x (1+(Interest rate x days/years))

Problem 1

Assuming that you place £2 million on deposits 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 at 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 (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

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?

Solution 

Yield = (357,868.25/369,315.45 -1) x 360/215 = 2.5%

Fixed Deposits 

Problem 5

A dealer takes a fixed deposit of GBP 8 million from a customer for 75 days at 5.45%. At maturity, he repays GBP 8,096,000:

GBP 8,000,000 + (GBP 8,000,000 X 0.0545 X 75/360)

= GBP 8,096,000.

Taking a Position

Example 6

James borrows EUR 6 million for 1 month (31 days) at 5.75%, he lends EUR 5 million for 1 month at 5.77%, he borrows EUR 9 million for 1 month at 5.72% and he lends 7 million for 1 month at 5.79%. The current 1-month rate is 4.71/5.82%. What is he net position, his average rate and profit or loss?

Solution

The net position is therefore long of EUR 3 million at an average rate 5.63%. 

To compute the profit, assume that he closes out his position by lending EUR 3 million at the current rate of 5.71% (the bid side because he will be hitting someone else’s bid rate). The would earn give a profit of 0.140% (5.71 – 5.63) for 31 days on EUR 3 million.

EUR 3,000,000 x 0.0014 x 31/360 = EUR 362.04

Typically, the present value of this amount would then be computed to give the dealer’s profit:

EUR  362.04 / (1 + (0.0571 x 31/360)) = EUR 360.24