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Money market is a type of financial market where operations related to buying and selling of securities occur for a short period. It comprises various negotiable financial instruments with high liquidity. Such instruments include commercial papers, treasury bills, and deposit certificates.
Due to the high liquidity of securities in money markets, it is usually considered a safe environment for investments. An individual can invest in the money market by making a purchase of a money market mutual fund (MMF), buying a treasury bill or simply opening a money market account at a bank.
Structures of money markets:
The structures of money market can be classified into two prominent sectors:
- Organised Sector
- Unorganised sector
Types of money market instruments for the organised sector :
The most prominent types of money market instruments are outlined further:
(A) Certificate of Deposit (CD)
Certificates of Deposits are somewhat like fixed deposits. Some scheduled commercial banks offer CDs. Most CDs are not strictly money market funds. Only the ones available for a short term of three months or six months are considered in this regard.
(B) Commercial Paper (CP)
Commercial paper markets are used for the exchange of unsecured loans. Highly creditworthy companies and institutions only participate in the same.
(C) Treasury Bills (T- Bills)
These bills are issued by the Government of India for raising funds for a short span maximum of a year. This is considered to be the most risk-free instrument as it is backed by the government.
(D) Repurchase Agreements
Under this agreement, the Reserve Bank of India lends funds to commercial banks. Other government securities, including treasury bills, are sold to some other party with an agreement to repurchase the same at a fixed price and date.
(E) Money Market Funds
The wholesale money market has its periphery up to companies and institutions that operate fund exchanges ranging from 5 million dollars to 1 billion dollars.
(F) Money Market Accounts
This is a kind of savings account that generates interests but withdrawals are limited by regulations.
The unorganised money market comprises:
- Indigenous Bankers: Mere financial intermediaries who work as banks. They provide loans on receiving deposits.
- Money Lenders: They lend money at high-interest rates and operate both in the rural and urban sector.
Important conditions to be considered by an investor:
(A) Risks-
The risks must be taken into consideration when an individual wishes to invest in money market. Risks include reinvestment risks, risks related to interest rates, and credit risks. Prices of assets increase and consequently interest rates decline and vice versa. To be specific, prices of assets work as inversely proportional to interest rates. Hence as prices of assets fall, returns decline.
(B) Returns-
Usually, high returns are obtained from Money market funds. When the interest rate falls, prices of assets increase and good returns are obtained.
(C) Investment Horizon-
Money market funds are mostly for a short span of the investment horizon. It stretches from a period of three months to one year.
These are some of the foremost factors that must be considered when an individual aims to invest in the money market.
Why is the money market important?
The money market is one of the vital pillars of the modern-day global financial system. It enables the smooth running of the financial economy. As compared to other fields, the money market provides a risk-free podium for trading and fund investment. It helps banks and governments to meet their quick obligations.
In April 1992, the Reserve Bank of India introduced the Money Market Mutual Fund for individual investors to participate. The most prominent tenets of the scheme were:
- Private Sector and Commercial Banks can set this up for the sake of their benefit.
- Individual investors can participate in investments for MMMF
- The minimal lock term for MMF is about 15 days.
Dysfunctional Markets
All sectors of the money market are not alike. There exist certain exceptional sectors like asset-backed commercial paper (ABCP) and certain tri party repo transactions. These are firms with illiquid financial assets such as loans and mortgages. For instance, the tri party repo market turned much less trustworthy than the usual repo for agency securities and treasury.
Conclusion
The above discussion reveals the pros and cons that an individual must consider when making the decision to invest in money market. The structures of the money market clearly outlines two sectors and their respective instruments. Money Markets are usually much more reliable and risk-free as compared to other such platforms. This not only provides individuals to invest without intense hesitation but also is a temporal aid for the government and banks.
The instruments discussed vividly refer to the various channels through which individuals can opt to invest. To sum up we can say, considering the benefits ranging much beyond the dysfunctions, investments in money markets are not as complex as retail ones. It is a booming possum, easy and safe to operate but one can only proceed with a proper understanding of the tenets and instruments.
It is recommended to seek assistance from experts before you invest in the money market.
