6.

In the morning of Monday, 2 April, a money dealer in USD/ MYR in ABC Bank noted
that the banks USD Nostro account in New York would be out of money by USD 500
million and USD 100 million on Tuesday, 3 April and Wednesday, 4 April, respectively.
The money market dealer further established that USD borrowing is available from DEF
Bank at the rate of 4.25% for both deals.

a) (i) Explain the appropriate money market deals that the dealer in ABC Bank can
execute with DEF Bank to square its USD Nostro account in New York on both dates
when the account is short by the respective amounts

Since the USD Nostro account in New York out of money by respective amount,
it means that the account will becomes deficit. Dealer in ABC Bank should cover back
the deficit balance to avoid from paying expensive overdraft charges. The dealer in ABC
Bank should borrowing money from DEF Bank with a USD borrowing rate at 4.25%.

The appropriate money market deal is overnight (O/N) money market deal for the
USD 500 million because the dealer in ABC Bank can get the fund by today to cover
back the amount. But dealer must payback USD 500 million plus interest to DEF Bank
by 3 April. Dealer should execute Tomorrow next (T/N) money market deal for USD 100
million on 2 April so he can get fund by tomorrow since the money of USD 100 million
will be go out on 3 April. Dealer also should execute Spot Next (S/N) on 2 April in order
to get fund about 100 million by 4 April.

(ii) Discuss the advantages of executing these deals

The dealer in ABC Bank can avoid from paying expensive overdraft charges since the
account becomes deficit. If a Nostro account unable to keep its balance at the level of
necessary, it cannot satisfy its minimum reserve requirement. Dealer can borrow USD
from DEF Bank to cover his deficit balance. The money that going out previously is
lending out with more higher rate, dealer can make profit and after the dealer get back
money he can meet his short term payment requirement.

(iii) Explain why is there a need to square the Nostro account on both dates?

Because can make a profit by lending out the money in Nostro account. Bank make profit
by lending money to borrower and get interest rate from borrower as return.

b) For each of the deals executed in a) (i) above, what are the respective value dates and
the interest payable by ABC Bank to DEF Bank on maturity for each of the deals?

Support your answer with appropriate funds flow illustrations.

 Transaction
date & value Mature
date

Mon Tue Wed Thur Fri Sat

2 April 3 April 4 April 5 April 6 April 7 April

For overnight (O/N) money market deal about the USD 500 million, dealer should deal
with DEF Bank on 2 April. The value date is 2 April and it will be mature on 3 April. The
interest pay of dealer in ABC Bank to DEF Bank is 1 day interest.

Transaction Value
date date Mature

Mon Tue Wed Thur Fri Sat

2 April 3 April 4 April 5 April 6 April 7 April

For tomorrow next (T/N) money market deal about the USD 100 million, dealer should
deal with DEF Bank on 2 April. The value date is 3 April and it will be mature on 4
April. The interest pay of dealer in ABC Bank to DEF Bank is 1 day interest.
 Transaction Value
date date Mature

Mon Tue Wed Thur Fri Sat

2 April 3 April 4 April 5 April 6 April 7 April

For Spot Next (S/N) money market deal about the USD 500 million, dealer should deal
with DEF Bank on 2 April. The value date is 4 April and it will be mature on 5 April. The
interest pay of dealer in ABC Bank to DEF Bank is 1 day interest.

c) Explain the concept of no crossing over month end rule and month end to month
end rule on the treatment of value dates.

No crossing over month end rule

If the month end maturity date is not a good business day, market convention is to bring
the maturity date backward to the next available good business day and not push the
maturity date forward. Example, if 30 November is a holiday, then the maturity date will
be brought backwards to 29 November (otherwise it will not be a 6 month deposit).

Month end to month end rule

When the spot value date falls on a month end ( last good business day of the month), the
maturity of the respective tenor will fall on their respective month end. Example, if the
month end value spot is 31 May, then the maturity date for a 6 month deposit will be 30
November.

d) Explain the reasons why T/N money market deal is very useful facility from the
perspective of borrower and lender.

For borrower, with T/N money market, they can get the fund by tomorrow and
only pay for 1 day interest to bank. For example, John dealing T/N with bank on 19 May,
the next day which is 20 May John will get the fund and John have to pay back the
money he borrow plus 1 day interest at 21 May.
 For lender, with T/N money market, they can increase their capital by 1 day.
Lender lend money to borrower only for 1 day then lender can get back his money by
tomorrow and also the interest (profit). For example, bank deal with John on 19 May,
bank lend money to John by 20 May, the next day bank can get back the money that it
lend plus 1 day interest.