A business money market is not a physical place – it’s simply a network between financial institutions and traders that’s linked through communications technology: phones, faxes, the internet and other similar communication systems.
A business money market deals in money market instruments. They include treasury markets, federal agency notes, CD’s commercial paper and other kinds of instruments depending on where the business money market is located.
Businesses that want to invest in a low risk, high liquidity investment would be the participants in this type of market. The securities that are traded are usually government secured, and therefore tend to give an assured return.
Why are they important?
They allow businesses with surplus cash to invest in a sure return, and those that are in need of funds to borrow can get them here at reasonable interest rates on the short term. In other words, it’s a sort of “store” for excess funds which would invest extra funds through lending them to those who need them at an interest to businesses.
Why are they preferred?
They offer very little risk. As we said earlier, the instruments that are traded are usually government secured and therefore have an almost guaranteed return. Long term instruments, on the other hand are a bit more risky.
You should know though, that no investment is completely devoid of risk (the global economic collapse taught us that). The only difference is that there are a smaller range of possible outcomes. There is only so many (in this sense actually meaning few) things that can happen.
What brings about this difference is the duration of the investment. The distant future associated with long term investment is not predictable, but a business money market deals in days, weeks and months. This makes predictability a bit easier.
A business money market is also preferred by businesses because only established businesses are allowed to trade in it, minimizing the risk. It gives the assurance of a continued supply of money to lend as well as that of getting repaid. It also means that things move along rather fast – if a business wants money for a day, you can hardly do a background check on them; you’d have to know from their history that they are reliable and stable.
Are there risks to be considered in the money market? Certainly!
1. All funds try to stay at an NAV of $1, but sometimes fail to do this for different reasons. The share price may go down, and part or all of the original invested principal may be lost. This is partly what happens to some markets in the global crisis. This will have warning signs though – you will notice that the interest rates start to rise and borrowing becomes expensive and landing more risky.
2. The rates are not guaranteed to always rise, so an investor has to take what they get. You could start off at a great yield rate, but in a month, it could drop or rise. You have to accept this to be part of the business money market (again, the duration you want to be in for comes into play here).
3. Over a long period of investment, the returns may be considerably less because of inflation on the average. If you invest once for a 20 year period as compared to investing once each year over the 20 years, you are less likely to be affected by inflation.
Where would you get a money market to invest in or borrow from?
This means that you are looking for a money market fund – the pool of money that goes into the business money market for lending. You can look in a brokerage house or a mutual fund company. Some banks have started to offer this lately, but the former two places are the best places to ask after a business money market fund. These sit in the virtual network and will be able to open an account for you to either lend or borrow.