What is a Banker's Acceptance - BA
A banker's acceptance (BA) is a short-term debt instrument issued by a company that is guaranteed by a commercial bank. Banker's acceptances are issued as part of a commercial transaction. These instruments are similar to T-bills, are frequently used in money market funds and are traded at a discount from face value on the secondary market, which can be an advantage because the banker's acceptance does not need to be held until it matures.
Banker's Acceptance (BA)
BREAKING DOWN Banker's Acceptance - BA
Considered negotiable instruments with features of a time draft, banker’s acceptances are created by the drawer and provide the bearer with the right to the amount noted on the face of the acceptance on the specified date. Unlike traditional checks, banker’s acceptances function based on the creditworthiness of the banking institution instead of the individual or business acting as the drawer. Additionally, the drawer must provide the funds necessary to support the banker’s acceptance, eliminating the risk associated with insufficient funds on the part of the drawer.
Banker's acceptances vary in amount according to the size of the commercial transaction. The date of maturity typically ranges between 30 and 180 days from the date of issue, which generally classifies the banker's acceptance as a short-term negotiable instrument. To create a banker’s acceptance, the drawer must meet the eligibility requirements as set forth by the banking institution that serves as the backer in the transaction.
Banker’s Acceptance as Investment Vehicles
Banks or investors often trade these instruments on the secondary market before the acceptances reach maturity. When traded, the instrument is sold below its face value to provide an investor the opportunity to generate a profit from the deal, similar to the trading strategy behind zero-coupon bonds. Banker's acceptances are considered to be relatively safe investments because the bank and the borrower are liable for the amount that is due when the instrument matures.
Banker’s Acceptance and International Trade
Due to their perceived safety, banker's acceptances are regularly used as financial instruments in international trade dealings. This allows international institutions to complete transactions without the need to extend credit. An importing business can issue a banker’s acceptance with a date beyond when the shipment is expected to be delivered, and the exporting business can have a payment instrument in hand before finalizing a shipment. Additionally, a banking institution will not provide a banker’s acceptance without a reasonable likelihood that it is able to provide the funds as specified.