Understanding Money Market Instruments

Walbrook Wealth ManagementJanuary 01, 2020

This fact sheet provides additional information to help with understanding the investment, tax and other financial planning concepts that we have discussed with you or included in your Statement of Advice.

Please contact your adviser if there is any aspect on which you need further information or clarification.

What are Money Market instruments?

Money market instruments are highly liquid, typically short-term, investments.

A portfolio may have a strategic allocation to money market instruments for liquidity and diversification purposes, and they can also serve as a ‘stop-over’ for excess cash between investments.

Types of Money Market Instruments

The money market instrument that is most common to retail investors is the Term Deposit.

An investor lends their money to a financial institution for a specific period of time, usually between one week and a year, in exchange for interest income.

Wholesale and institutional investors, including corporate entities, superannuation and pension funds, typically use a broader range of money market instruments to invest and manage their liquidity and funding needs.

Retail investors may also access these types of money market instruments indirectly, via money market funds or multi-asset funds that invest in money market instruments.

We can split the most common money market instruments by counterparty type:

Bank Counterparties

  • Term / Call Deposits - where the investor invests directly with the bank as their counterparty
  • Fiduciary Deposits - where the bank invests the funds in the name of the bank with a third-party bank issuer, but on the account and risk of the investor i.e. the investor bears the counterparty risk
  • Certificates of Deposit (CDS) - savings certificates entitling the bearer to receive interest. CDS are issued by approved deposit institutions such as banks or credit unions. The deposit is securitised by the issuing bank, allowing the investor to sell it before maturity.

Non-Bank Counterparties

  • Commercial Paper - issued by corporate entities, including banks and industrial companies, to fund operations and manage liquidity. Terms range from 1 week to 9 months, with high denominations.
  • Repurchase Agreements - agreement to sell a security, commonly a treasury bill, and to repurchase it afterwards. The difference between the sale and repurchase price is the return, known as the "repo rate".

    To maintain the value of the collateral in the repurchase agreement, any changes in the value of the security may require the seller to post additional funds in a margin account.

  • Treasury Bills - short-term government debt obligations with a maturity of one year or less.

Key features of Money Market Instruments

Investment Horizon


Return Expectation

Income only

Market Expectation


Maximum Gain

Income only

Maximum Loss

There is the possibility of total loss, in the case of the default of the counterparty.

Profit / Loss

Money market investments offer an income return. When considering returns, investors consider both nominal and real (inflation adjusted) returns.

Interest rates offered depend on the term, amount and risk of default of the counterparty (typically expressed in a credit rating).

The investor bears interest rate risk on rollover/reinvestment at maturity, and when investing for longer periods the real value of the investment may be eroded by inflation.

Interest income is calculated by using specific day count conventions, i.e. the number of days in a month/year. Day count conventions have developed historically as a result of the need for easy calculation and time-period constancy. A number of different conventions exist, such as 30/360 method (counting 30 days for each month, and 360 days for the full year), actual/actual method or actual/360 method.

Trading Process

Trades in money market instruments are executed over the counter (OTC) i.e. directly between the lender and the borrower, or at an exchange if the product is standardised as is the case with Treasury bills.

Trading Costs

Investing in money market instruments creates a small amount of explicit and implicit costs for the investor.

Implicit fees may not be as apparent, as costs are built into the interest rate offered.

In the example of an explicit fee, a bank may not charge for their own term deposit product, but charge 0.10% pa for a fiduciary deposit.

Advantages & Disadvantages


  • May offer higher returns than leaving cash balances in transaction or savings accounts
  • With some exceptions, depending on term and security structure, highly liquid
  • Low volatility and correlation with other asset classes, providing diversification benefits within a diversified portfolio
  • Low default risk, depending on issuer
  • Possible access to government deposit compensation schemes (in the case of direct term deposits)


  • Lower returns compared to short-term instruments of other asset classes.
  • Interest rate risk on roll-over
  • No inflation hedge


Money market instruments are regarded as being some of the safer investments, however as with any investment certain risks remain.

Issuer Risk

Issuer Risk refers to the risk that a counterparty will default on its financial obligations. Counterparties may be corporates, governments or other government and non-governmental bodies. Issuer risk is measured by the issuer's creditworthiness and reflects their solvency. For example, the credit quality of a sovereign (government) issuer is determined by the state of its finances and economic stability.

Money market investments are debt obligations. Thus the creditworthiness and default risk of the issuer has to be considered when investing.

The credit quality of a counterparty for short-term debts is rated by independent agencies, such as Moody’s or Standard & Poors. Short-term ratings differ from long-term ratings for the bond market (see Understanding Fixed Income).

Inflation Risk

Investments are exposed to inflation risk as rising prices cause money to lose its real value (purchasing power). Inflation risk is a particular worry for income investors. If an investor is dependent on the income from their portfolio and earns a lower real (inflation-adjusted) return than they initially expected, they may risk capital erosion.

As instruments that provide an income only return, with no prospect for growth in the principal, money market instruments do not provide a hedge against inflation and their real (inflation-adjusted) value is eroded over time.

Interest Rate Risk

Relates primarily to investments in fixed income but affects all asset classes and covers the volatility that may accompany interest rate fluctuations due to fundamental factors including the inflation rate, money supply, the government's monetary and fiscal policies, and a country's position within the economic cycle.

While an investor may lock in their desired interest rate for a specific term, there is no guarantee that they will be able to roll their investment at their desired rate for a new term at maturity.

Currency Risk

Also referred to as exchange-rate risk, this risk arises from currency fluctuations. Investors holding foreign currency assets bear the risk of a devaluation of that currency against their currency. They can reduce this risk by adopting hedging strategies.

While a money market investment in a clients 'natural' currency may not be volatile, the addition of currency risk increases the volatility of a money market investment in another currency. Without a natural or traded hedge against this currency risk, the money market investment is better classified as an active currency position rather than part of the cash allocation.

Important Information

Walbrook Wealth Management is a trading name of Barbacane Advisors Pty Ltd (ABN 32 626 694 139; AFSL No. 512465). Barbacane Advisors Pty Ltd is authorised to provide financial services and advice. This post is general information only and is not intended to provide you with financial advice as it does not consider your investment objectives, financial situation or needs. You should consider whether the information is suitable for your circumstances and where uncertain, seek further professional advice. We have based this communication on information from sources believed to be reliable at the time of its preparation. Despite our best efforts, no guarantee can be given that all information is accurate, reliable and complete. Any opinions expressed in this email are subject to change without notice, and we are not under any obligation to notify you with changes or updates to these opinions. To the extent permitted by law, we accept no liability for any loss or damage as a result of any reliance on this information.

Walbrook Wealth Management is a trading name of Barbacane Advisors Pty Ltd (ABN 32 626 694 139; Australian Financial Services Licence No. 512465). Walbrook Wealth Management (Credit Representative Number 534783) is authorised under Australian Credit Licence 389328.

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This page provides general information only and has been prepared without taking into account your objectives, financial situation or needs. We recommend that you consider whether it is appropriate for your circumstances and your full financial situation will need to be reviewed prior to acceptance of any offer or product. It does not constitute legal, tax or financial advice and you should always seek professional advice in relation to your individual circumstances. Version 4.0