1,Chapter 7 Applications Of Simple Interest,7.3 Treasury Bills And Commercial Paper,2,Treasury bills (T-bills) are paper contracts issued to lenders by the federal government and several provincial governments when they borrow money for terms of less than one year.,3,T-bills do not carry an interest rate. The issuing government guarantees payment of the face value at maturity. The investor purchases T-bills at a discounted price reflecting a rate of return that is determined by current marked conditions.,4,The discounted price is determined by computing the present value of the T-bills using the simple discount method .,5,Commercial paper : are paper contracts issued by large corporations to borrow funds for the short term.,The discount rate of commercial paper is usually 0.1% to 0.2% higherthan that on T-bills.,6,Example : suppose the average rate of return on 168-day Government of Canada Treasury bills sold at a Tuesday auction was 4.68% pa. At this yield, what price was paid for a $100,000 face value T-bill?,Solution:,7,Example:,An investment dealer bought a 91-day Canada T-bill to yield an annual rate of return of 3.08%. What was the price by the investment dealer for a T-bill with a face value of $100,000?,8,The investment dealer resold the $100,000 T-bill the same day to an investor to yield 2.98%, what was the investment dealers profit on the transaction?,9,Solution:,The maturity value is the face value of the T-bill, $100,000, the discount period has 91 days.S=$100,000 r1=3.08% t1=91/365,The investment dealer paid$99,237.96 for a $100,000 T-bill.,10,Find the resale price p2s=$100,000 r2=2.98% t2=91/365investment dealers profit is$99,262.52-$99,237.96=$24.56,The investment dealers profit is $24.56 on the transaction.,11,Example:,An investor purchased $250,000 in 364-day T-bills 315 days before maturity to yield 4.34%. He sold the T-bills 120 days later to yield 3.92%. How much did the investor pay for the T-bills? For how much did the investor sell the T-bills? What rate of return did the investor realize on the investment?,12,Solution:,Issue date,0,364,days,315 days before maturity date,$250,000,p1,r1=4.34%,Resale date,days,Due date,0,364,p2,$250,000,r2=3.92%,120days,195days,13,Find how much he paid for the T-bills.t1=315 days r1=4.34% s=$250,000,He paid $240,974.35.,14,The days remain to maturity=315-120=195 dayst2=195 days r2=3.92% s=$250,000,The investor sold the T-bills for$244,871.77.,15,Compute the rate of returnp=$240,974.35 s=$244,871.77t=120 dayss=p(1+rt)r=4.92%,The investor realized a rate of return of about 4.92%.,16,Example calculation of the rate on commercial paper,Sixty-day commercial paper with face value $100,000 was issued by the Nova Corporation of Alberta for $98,940. What rate of return will be realized if the paper is held through to maturity?,17,Solution:,S=$100,000 P=$98,940 t=60 daysS=P(1+rt)r=6.517% A 6.517% rate of return will be realized if the paper is held it matures.,