Commercial paper is a short-term, unsecured debt instrument issued by companies to raise funds for immediate financial needs. Typically, large corporations with strong credit ratings issue commercial paper to finance working capital, such as payroll, inventory purchases and short-term liabilities. These instruments usually have maturities ranging from 7 days to 270 days and are issued at a discount to their face value, and are redeemed at face value upon maturity.
The primary advantage of commercial paper is that it offers higher returns compared to traditional savings accounts or fixed deposits. Additionally, since commercial paper is issued by reputable companies with high credit ratings, default risks are generally lower. The short-term nature of the commercial paper implies that investors can choose commercial paper with maturities that align with their financial goals, allowing them to access their capital within a relatively short period.
Commercial paper carries risks due to its unsecured nature, with investors depending on the issuer’s creditworthiness. If the company defaults, there is no collateral to recover funds, leading to potential losses. Additionally, if the issuer fails to meet financial goals or secure liquidity by maturity, investors may lose their money. Market liquidity can also be limited, making access to commercial paper less favorable compared to more established markets.
A key difference between commercial paper and corporate bonds is the maturity period and level of security. Corporate bonds are long-term debt instruments with maturities exceeding one year. Corporate bonds are typically secured by the issuer’s assets, providing a level of security for investors. Additionally, corporate bonds usually offer fixed interest payments, coupons, throughout the life of the bond, offering a predictable income stream for investors. This makes them a preferred choice for those seeking long-term investment stability and lower risk compared to commercial paper.
In Kenya, investors can access commercial paper through licensed investment banks, fund managers and financial institutions. Companies issuing commercial paper must get approval from the Capital Markets Authority (CMA) and provide detailed disclosures about their financial health. Investors can participate by purchasing commercial paper directly from issuing companies.
For Kenyan investors seeking short-term investment opportunities with potentially higher returns than traditional banking products, commercial paper presents a viable option. However, due diligence is crucial, as the risk of default exists, making it essential to assess the creditworthiness of issuing firms before investing.
