30 years: Financial markets trader

In this video, Abdulla covers single period discounting applicable to money markets.

In this video, Abdulla covers single period discounting applicable to money markets.

3 mins 55 secs

Overview

When using the formula for single-period discounting in money markets, the correct inputs are an appropriate nominal annual rate or yield and the correct accrual.

Key learning objectives:

What is the correct formula for calculating the PV of a future cash flow for money markets?

What are the critical inputs into the formula?

Summary#### What is the formula for calculating the PV of money market cash flows?

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What are the correct inputs into the formula?

Valuation usually involves compounding and discounting cash flows. Producing the correct values requires the correct formula and the correct inputs. Money markets (the markets for lending or borrowing via loans, deposits and securities at a fixed rate for a period of one year or less) call for single-period discounting.

The TVM formula to find the PV of a future cash flow is:

`PV = CF/(1 + r x accrual)`

Where: Accrual = Days/Base

The formula allows investors to calculate the future value of $100 in 92 days, or the PV of a T-Bill that matures in 182 days and pays $100 at maturity or redemption. The rate multiplied by the accrual is the rate for the period. Expressing PV can be simplified to future cash flow divided by 1 + the periodic rate.

It is important to determine the correct inputs for interest rate and accrual. The rate can be a nominal annual rate or an effective annual rate. We also need to determine the correct accrual i.e. the number of days in the valuation period divided by the base number of days in the year. The base is determined by the currency of the cash flow. The two major money market day count bases are 365 or 360. When you’re using the formula that’s applicable for single period discounting in money markets, the correct inputs are an appropriate nominal annual rate or yield and the correct accrual.

Abdulla’s career in the financial markets started in 1990 when he entered the trading floor of the London International Financial Futures Exchange, LIFFE, and qualified as a pit trader in equity and equity index options. In 1996, Abdulla became a trainer for regulatory qualifications and then for non-exam courses, primarily covering all major financial products.

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