Menu
Home
Log in / Register
 
Home arrow Business & Finance arrow The mathematics of financial models

MARKET INSTRUMENTS

There are many instruments that are traded in the financial markets. Since the concept of calculating the present value of cash flow involves the use of interest rates, I will restrict my discussion to interest-bearing instruments. As this comprises a very broad universe of instruments, for the purposes of illustration, I will focus on treasury bills, treasury bonds, euro-dollar futures, and swaps.

Treasury Bills

Treasury bills (or T-bills) are short-term debt instruments that are issued by the U.S. Treasury. With maturities of less than a year, these zero-coupon bonds are usually issued with maturities of 1, 3, 6, and 12 months. While 12-month T-bills are auctioned monthly, T-bills of other maturities are auctioned weekly.[1] As stated in the T-bill settlement calculation put out by the U.S. Treasury, the formula used to convert a discount yield into a settlement price is given by the expression

(2.1)

TABLE 2.1 Calculating the Cash Price of a Treasury Bill

where DY represents the discount yield (or quoted price[2]), Price represents the cash (or settlement) price associated with the Treasury bill, and T represents the number of calendar days from today to the maturity date.[3] Table 2.1 shows the use of equation (2.1) when DY = 0.05 and T = 30 days.

As can be seen from Table 2.1, when the quoted price is 5 percent, the cash price paid for this T-bill is USD99.5833 so as to receive USD100 in 30 days.

  • [1] For more details associated with Treasury bills, go to treasurydirect.gov/ indiv/research/indepth/tbills/res_tbill.htm.
  • [2] Quoted price is the terminology that is used to refer to a traded price (i.e., the price seen on a trading screen) although in this instance the quoted price refers to the yield and not the price.
  • [3] For the purposes of settlement, T is calculated from the day the transaction is settled-which is one business day following the trade date.
 
Found a mistake? Please highlight the word and press Shift + Enter  
< Prev   CONTENTS   Next >
 
Subjects
Accounting
Business & Finance
Communication
Computer Science
Economics
Education
Engineering
Environment
Geography
Health
History
Language & Literature
Law
Management
Marketing
Mathematics
Political science
Philosophy
Psychology
Religion
Sociology
Travel