There are several important differences in yield measures quoted for money market instruments versus bonds:
- Bond yields-to-maturity are annualised and compounded. Yield measures in the money market are annualised but notcompounded; the return on a money market instrument is stated on a simple interest basis.
- Bond yields-to-maturity usually are stated for a common periodicity for all times-to-maturity. Money market instruments with different times-to-maturity have different periodicities for the annual rate.
- Bond yields-to-maturity can be calculated using standard time-value-of-money analysis. Money market instruments are often quoted using non-standard interest rates and require different pricing equations than those used for bonds.
The pricing formula for money market instruments quoted on a discount rate basis.
where
- PV = present value, or the price of the money market instrument
- FV = the future value paid at maturity, or the face value of the money market instrument
- Days = the number of days between settlement and maturity
- Year = the number of days in the year
- DR = the discount rate, stated as an annual percentage rate
The unique characteristics of a money market discount rate
The pricing formula for money market instruments quoted on an add-on rate basis.
where
- PV = present value, the principal amount, or the price of the money market instrument
- FV = the future value, or the redemption amount paid at maturity including interest
- Days = the number of days between settlement and maturity
- Year = the number of days in the year
- AOR = the add-on rate, stated as an annual percentage rate
