1.2.10 Money Markets

Welcome to On Judgement. A charity has a payment due in three weeks. A product is described as “cash-like”. What must you check before relying on it to make the payment? Take a first view. You can change it when you have considered the evidence.

Owners need cash for spending, operations, unexpected calls and future investment opportunities. Managers also need settlement and collateral resources. Cash has a portfolio purpose even when its expected return differs from longer-horizon assets. The right comparison begins with amount, timing, currency and certainty of payments. Cash-like is a description requiring investigation. A liquid market today may behave differently in stress. A settlement delay can matter when a payment date is fixed. Uncalled fund commitments are obligations to provide cash under terms; they are not themselves a cash reserve.

A Treasury bill is a short-term government debt instrument, often issued at a discount and repaid at face value if the issuer meets its obligations. Commercial paper is short-term issuer borrowing with credit and refinancing exposure. A deposit is a claim on a bank, with protection depending on eligibility and jurisdiction-specific rules. A repo combines a securities sale with an agreement to repurchase under terms, economically providing secured financing in a common structure. Collateral, haircuts, counterparty performance and legal arrangements matter. Repos can have terms beyond overnight. A short maturity or government-related label does not remove all risks.

An MMF pools investments in eligible short-term instruments under its rules. The investor owns fund units, not a personal claim to a guaranteed bank balance. Credit quality, liquidity, maturity, fees and valuation arrangements matter. Different MMF structures can have variable, low-volatility or constant NAV arrangements under relevant rules. Even where daily dealing is offered, redemption and settlement terms must be checked, including tools applicable in stress. A stable-looking quoted unit value is not a universal capital guarantee. UK-relevant authorities have examined liquidity mismatch where investors seek cash faster than underlying instruments mature or can be sold.

A nominal gain describes money amounts. A real return adjusts for a specified price level: (1 + nominal return) divided by (1 + inflation), minus one. The subtraction approximation is often close for small rates but is not exact. Compare after relevant fees, tax and currency effects on a consistent period. A higher quoted yield may compensate for credit, liquidity or structure differences. Cash management should protect the ability to meet obligations rather than chase a small yield difference without understanding what changed.

Let's work through A bill and purchasing power. A fictional 90-day bill costs £9,900 and pays £10,000 at maturity. Separately, a one-year cash balance earns 4% nominal while relevant prices rise 5%. Ignore costs and tax. Pause here and try the calculation or reasoning before continuing.

Bill gain = £100; holding-period return = £100 ÷ £9,900 ≈1.0101% over 90 days. A simple 365-day annualisation would be 1.0101% ×365/90 ≈4.10%; it is not a promised one-year realised return. Exact one-year real return = 1.04 ÷1.05 −1 ≈−0.9524%. The nominal balance rises while its purchasing power falls on that inflation basis.

Different bill quotation and day-count conventions exist. State the method. The purchasing-power example concerns a separate one-year investment, not the 90-day bill.

Now try the choices in this lesson. If your answer changes, identify the reason. Distinguish a money-market fund from an insured deposit and assess liquidity. Use the case activities to put the idea into your own words, and return to the evidence when more than one conclusion is defensible.