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investors have come to us asking about Commercial Paper. Naturally
they are interested in the high yields we have spoken about, but often
ask, What is Commercial Paper? For those clients that are unclear
about certain investment terms, I am providing an explanation that should
make things somewhat easier.
For starters lets discuss what are known as fixed income investments. Fixed income normally refers to things like bonds, certificates of deposit or any type of investment whereby you are basically putting your money on deposit for a fixed period of time and for a fixed rate of interest. A bond is a type of fixed income investment and is in essence a loan. When you purchase a US government bond, you are loaning the government your money for a fixed time period and for a fixed rate of interest. When you purchase a corporate bond, from a company such as Pepsi or IBM, you are loaning that corporation your money in the same fashion. The term Bond is used when talking about a loan that is greater than one or two years. Most bonds are issued for five years, ten years, twenty-years and so on up to thirty years. When watching the financial news you will often hear the term US government long bond. They are talking about 30 year US government bonds, which currently pays about 5.50% at the moment.
Interest on a bond investment is normally
paid every six months to the investor. At the end of the bond time period
or when it matures, the principal amount is returned to the investor.
As an example, if you invest $100,000 in a five-year bond at 6%, you will
receive two interest checks every year, for a total of $6,000 every year
that you own the bond (one check every six months for $3000). After
five years, your $100,000 is returned to you. Interest on a bond
is normally paid out every six months, but there are some bonds that pay
interest monthly. It can be difficult to purchase long-term bonds
in the Dominican Republic because many companies are fearful about borrowing
money at a high rate for a long period of time. Just like investors
who are looking for a mortgage, they do not want to be locked into a high
interest loan if rates should go down in the future. Locking in a
high rate over a long period of time is very good for the investor, but
is not favorable for the entity borrowing the money.
Commercial paper is in effect a very short-term bond, usually for any period less than one year. When talking about commercial paper investments, we are in fact discussing a type of short-term investment for 30 days, 90 days, 180 days or any time frame that is one year or less. Most investors that understand a bank certificate of deposit can relate that to a commercial paper investment. The difference of course is that you are loaning your money directly to a company and not to the bank. In essence it can be said that you are by-passing the bank because in reality banks that offer money market accounts or savings accounts are purchasing commercial paper with depositors funds and keeping the spread between what they really earn and what they pay the depositor.
Most of the commercial paper issued in
the Dominican Republic is for a minimum of 90 days. Investors that
make this investment are in effect loaning their money to a company for
a short-term need. Interest is usually paid monthly with a commercial
paper investment and at the end of the 90 days, the principal or initial
investment is returned to the investor. When we work with our clients
that are interested in the higher yields found in Dominican Peso Investments,
we have made special arrangements with the brokers we work with so your
monthly interest is automatically credited to your Dominican Peso Bank
Savings Account. This way this is no hassle cashing your monthly
interest check and you always have access to your money via your ATM card
(which can be used worldwide at any bank machine that is a member of PLUS
or CIRRUS). The commercial paper can also be registered in your name
directly or if you prefer, in the name of your corporation, foundation
Money is a commodity, like oil, silver, bananas or coffee. When it is in short supply, the price goes up. The price of money is interest rates and when it is in short supply, interest rates are higher. This is the situation in the Dominican Republic and elsewhere. Many companies either need money for a short term need or they do not want to issue longer term bonds and would prefer to continuously re-borrow every 90 days at the prevailing rate. The thinking behind this is that the company will not become locked into a very high rate on a long-term basis if the interest rates come down. Part of this business philosophy has come about because rates in the Dominican Republic have in fact come down from a high of over 30% a few years back.
Some companies do have a need for US dollars in order to trade with the United States. Since there are often not enough dollars in the banking system, companies must attract individual investors by offering a better rate of return than can be found elsewhere.
The interest rates of course will change
weekly, depending upon the market and demand.
This Information has been prepared and
compiled by Mr. John Schroder as a service to his clients. Mr. Schroder
maintains an office in Santo Domingo and in Panama. His firm provides
assistance with company incorporations
in the Dominican Republic, Offshore incorporations in other tax haven jurisdictions,
Residency in the Dominican Republic and Panama, Assistance with Banking
and Investments, Real Estate matters and company representation. To contact
his firm, please click below: