Overnight Market

The overnight market is the portion of the money market involving the shortest term loan. The overnight market is the component of the money market involving the shortest term loan. Most activity in the overnight market actually takes place in the morning, immediately after the start of business for the day. Lenders agree to lend borrowers funds only “overnight” i.e. the borrower must repay the borrowed funds plus interest at the start of business the next day. It’s the area of the money market with the shortest term loans, in which lenders make funds available only overnight, meaning the borrower has to repay the loan – plus interest – at the start of business the following day. Given the short period of the loan, the interest rate charged in the overnight market, known as the overnight rate is, generally speaking, the lowest rate at which banks lend money. Overnight trading usually happens when an investor decides to take a position at the close of a trading day, in an overseas market that will remain open while the local market is closed.

Most of the activity in the so-called overnight market in fact occurs in the morning immediately after the start of business for the day. Because the loan period is extremely short, the¬†interest rate charged in the overnight market – known as the overnight rate – is usually the lowest rate at which banks lend money. The typical day at a cash management group for a deposit-taking financial institution begins with forecasting the institution’s clients’ liquidity needs over the course of that day. If this projection is that the institutions’ clients will need more money over the course of the day than the institution has on hand, the institution will borrow money on the overnight market that day. Financial institutions forecast their clients’¬†liquidity needs that day, and either borrow or lend money on the overnight market, depending on expected outflows. On the other hand, if the analyst projects that the institution will have surplus money on hand beyond that needed by its clients that day, then it will lend money on the overnight market that day. All major stock exchanges have set and regulated trading hours, and these are the portions of time when regular trading takes place.

The overnight rate fluctuates over the course of a business day, depending on the amount of money demanded from and supplied to the overnight market over the course of the day. Banks are the largest participant in the overnight market, though some other big financial institutions also buy and sell on the overnight market to manage cash needs. The rate quoted as the “overnight rate” may be the rate at the end of the day or an average of the rate over the course of the day. The overnight rate is typically the interest rate that major banks use to lend and borrow from one another in the overnight market. For example, in the United States, it is known as the Federal Funds rate, while in Canada it is called the policy interest rate.

Banks are the largest participant in the overnight market, although some other large financial institutions, e.g. mutual funds, also buy and sell on the overnight market as a way to manage unanticipated cash needs or as a temporary haven for money until the institution can decide on where to invest that money. Overnight trading typically reflects trades made on a foreign market whilst these exchanges are closed. For example, the forex market runs for 24 hours a day, in exchanges worldwide.