Commercial paper
Encyclopedia : C : CO : COM : Commercial paper
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Commercial paper is a money market security issued by large banks and corporations. It is generally not used to finance long-term investments but rather for purchases of inventory or to manage working capital. It is commonly bought by money funds (the issuing amounts are often too high for individual investors), and is generally regarded as a very safe investment. As a relatively low risk option, returns are not large.
Because commercial paper maturities don't exceed nine months and proceeds typically are used only for current transactions, the notes are exempt from registration as securities with the United States Securities and Exchange Commission.
Currently more than 1,700 companies in the United States issue commercial paper. Financial companies comprise the largest group of commercial papers issuers, accounting for nearly 75 percent of the commercial paper outstanding at mid-year 1990. Financial-company paper is issued by firms in commercial, savings and mortgage banking; sales, personal and mortgage financing; factoring; finance leasing and other business lending; insurance underwriting; and other investment activities. The remaining commercial paper outstanding at mid-year 1990 -- over 25 percent -- was issued by nonfinancial firms such as manufacturers, public utilities, industrial concerns and service industries.
Issuing Commercial Paper
There are two methods of issuing paper. The issuer can market the securities directly to a buy and hold investor, such as most money funds. Alternatively, they can sell the paper to a dealer, who then sells the paper in the market. The dealer market for commercial paper involves large securities firms and subsidiaries of bank holding companies. Most of these firms also are dealers in US Treasury securities. Direct issuers of commercial paper usually are financial companies which have frequent and sizable borrowing needs, and find it more economical to sell paper without the use of an intermediary. In the United States, direct issuers save a dealer fee of approximately 3 basis points annualized (1 basis point equals 1/100th of 1%), or $30,000 on every $100 million annualized outstanding. This saving compensates for the cost of maintaining a permanent sales staff to market the paper. Outside the United States, dealer fees are rather lower.
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