Commercial paper is an unsecured promissory note offering short-term borrowing issued by corporations and banks. It has a fixed maturity of 1 to 270 days but average about 30 days. Many companies raise funds for current transactions by using commercial paper, because banks’ underwriting fees for commercial paper are small, generally just a few hundredths of a percent of the issued amount. The short-term interest rates are low. Commercial Paper is a money-market security issued by large banks and corporations to raise money in short-term debt, and is backed by the issuing bank and corporation’s promise to pay the face value on the maturity date. Because it is not backed by collateral, the credit ratings of the firms must be excellent in order to sell their commercial paper at a reasonable price. Even without collateral backed, the Commercial Paper is issued by the firms and banks with excellent credit ratings, and therefore they are concerned as extremely safe and attractive to lenders. Commercial paper is usually sold at a discount from face value. The longer the maturity on a note, the higher the interest rate the issuing institution must pay. Commercial paper is described as the lubricant to keep the modern economies moving, and the amount of commercial paper issued has been increased rapidly in recent years. However, as the credit crisis in 2007 and worse in 2008, the commercial paper market began to decline. A slow economy reduced borrowing. The credit ratings of many banks and firms have been downgraded. In commercial-paper market, if a company has the best credit rating, it is categorized to “tier-one” securities. The annualized rate of “tier-one” securities is now 1.75%-only half of U.S. government five-year notes and one-third of top-rated companies pay on long-term bonds. There are lots of buyers to “tier-one” securities. Money-market mutual funds are the biggest holders of commercial paper. Money-market mutual funds are required to fill 95% of their portfolios with only “tier-one” securities. In the past year, financial crisis has downgraded many big companies out of “tier-one” securities such as AT&T, British Telecommunications, Corning, DaimlerChrysler, Eastman Kodak, Edison International, The Gap, General Motors, Hertz, Motorola, Disney and Weyerhaeuser. As “tier-two” companies, volume is limited and there are more restrictions. Now, even tier-one companies are under strict scrutiny.

Reference:

http://www.economist.com/businessfinance/displaystory.cfm?story_id=E1_TDGTTSQ

http://topics.nytimes.com/topics/reference/timestopics/subjects/c/commercial_paper/index.html