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Investing Answers Building and Protecting Your Wealth through Education Publisher of The Next Banks That Could Fail

Paper Dealer

What it is:

A paper dealer is a financial institution that buys and sells commercial paper.

How it works (Example):

Commercial paper is an unsecured and discounted promissory note issued to finance the short-term credit needs of large institutional buyers. Banks, corporations and foreign governments commonly use this type of funding. Companies with very high credit ratings usually issue commercial paper. Because of this, it tends to be a very low-risk investment.

Exempt from SEC registration, commercial paper generally matures in a short period of time and usually does not exist for more than 270 days. The average maturity of commercial paper is between 30 and 35 days. The average investment is about $100,000, but some commercial paper investments are made in multiples of $1 million or more. Market makers and other financial institutions, paper dealers, facilitate the trading in this market.

Why it Matters:

Paper dealers are middlemen. Generally, they purchase commercial paper from issuers and resell it to investors for a commission. They quote interest rates on a discounted basis, meaning that although commercial paper is occasionally issued as an interest-bearing note, it typically trades at a discount to its par value. In other words, investors usually purchase commercial paper below par and then receive its face value at maturity. The discount, or the difference between the purchase price and the face value of the note, is the interest received on the investment.

Paper dealers facilitate trades for retail investors (though many individual investors buy commercial paper through mutual funds and ETFs) as well as money market mutual funds and commercial bank trust departments. These large institutional investors often prefer the cost savings inherent in using commercial paper instead of traditional bank loans.

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