Ebook Global money markets: Part 2
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Ebook Global money markets: Part 2
Repurchase and Reverse Repurchase AgreementsOne of the largest segments of the money markets worldwide is the market in repurchase agreements or repos Ebook Global money markets: Part 2 s. A most efficient mechanism by which to finance bond positions, repo transactions enable market makers to take long and short positions in a flexible manner, buying and selling according to customer demand on a relatively small capital base. Repo is also a flexible and relatively safe investment o Ebook Global money markets: Part 2 pportunity for short-term investors. The ability to execute repo is particularly important to firms in less-developed countries who might not have accEbook Global money markets: Part 2
ess to a deposit base. .Moreover, in countries where no repo market exists, funding is in the form of unsecured lines of credit from the banking systeRepurchase and Reverse Repurchase AgreementsOne of the largest segments of the money markets worldwide is the market in repurchase agreements or repos Ebook Global money markets: Part 2 ates, repo is a well-established money market instrument and is developing in a similar way in Europe and Asia.A repurchase agreement or “repo” is the sale of a security with a commitment by the seller to buy the same security back from the purchaser at a specified price at a designated future date. Ebook Global money markets: Part 2 For example, a dealer who owns a 10-year U.S. Treasury note might agree to sell this security (the “seller") to a mutual fund (the “buyer") for cashEbook Global money markets: Part 2
today while simultaneously agreeing to buy the same 10-ycar note back at a certain date in the future (or in some cases on demand) for a predeterminedRepurchase and Reverse Repurchase AgreementsOne of the largest segments of the money markets worldwide is the market in repurchase agreements or repos Ebook Global money markets: Part 2 repurchased is called the repurchase date.1 Simply put, a repurchase agreement is a collateralized loan where the collateral is the security that is sold and subsequently repur1 As noted, repurchase agreements can be structured such chat rhe transaction is terminable on demand.119120THE GLOBAL MONEY Ebook Global money markets: Part 2 MARKETSchased. One parry (the “seller”) is borrowing money and providing collateral for the loan; the other party (the “buyer”) is lending money andEbook Global money markets: Part 2
accepting a security as collateral for the loan. To the borrower, the advantage of a repurchase agreement is that the short-term borrowing rate is lowRepurchase and Reverse Repurchase AgreementsOne of the largest segments of the money markets worldwide is the market in repurchase agreements or repos Ebook Global money markets: Part 2 ion that is highly liquid. This latter aspect is the focus of this chapter.THE BASICSSuppose a government securities dealer purchases a 5% coupon Treasury note that matures on August 15, 2011 with a settlement date of Thursday, November 15, 2001. The face amount of the position is $1 million and the Ebook Global money markets: Part 2 note’s full price (i.e., flat price plus accrued interest) is $1,044,843.75. Further, suppose the dealer wants to hold the position until the end ofEbook Global money markets: Part 2
the next business day which is Friday, November 16, 2001. Where does the dealer obtain the funds to finance this position?Of course, the dealer can fiRepurchase and Reverse Repurchase AgreementsOne of the largest segments of the money markets worldwide is the market in repurchase agreements or repos Ebook Global money markets: Part 2 financing. In rhe repo market, the dealer can use the purchased Treasury note as collateral for a loan. The term of the loan and the interest rate a dealer agrees to pay are specified. The interest rare is called rhe repo rate. When rhe term of a repo is one day, it is called an overnight repo. Con Ebook Global money markets: Part 2 versely, a loan for more than one day is called a term repo. The transaction is referred to as a repurchase agreement because it calls for the securitEbook Global money markets: Part 2
y’s sale and its repurchase at a future date. Both the sale price and rhe purchase price are specified in the agreement. The difference between the puRepurchase and Reverse Repurchase AgreementsOne of the largest segments of the money markets worldwide is the market in repurchase agreements or repos Ebook Global money markets: Part 2 that it purchased and plans to hold it overnight. We will illustrate this transaction using Bloomberg’s Rcpo/Rcversc Repo Analysis screen (RRRA) that appears in Exhibit 8.1. The settlement date is the day that the collateral must be delivered and the money lent to initiate the transaction. Likewise Ebook Global money markets: Part 2 , the termination date of the repo agreement is November 16, 2001 and appears in the lower left-hand corner. At this point we need to ask, who is theEbook Global money markets: Part 2
dealer’s counterparty (i.c., the lender of funds). Suppose that one of the dealer's customers has excess funds in the amount of $1,044,843.75 labeled Repurchase and Reverse Repurchase AgreementsOne of the largest segments of the money markets worldwide is the market in repurchase agreements or repos Ebook Global money markets: Part 2 icipality with tax receipts that it has just collected and no immediate need to disburse the funds.Repurchase and Reverse Repurchase Agreements1212001, the dealer would agree to deliver (“sell") $1,044,843.75 worth of Treasury notes to the customer and buy the same Treasury security for an amount de Ebook Global money markets: Part 2 termined by the repo rate the next day on November 16, 2001. ’Suppose the repo rate in this transaction is 1.83% which is shown in the upper right-hanEbook Global money markets: Part 2
d corner of the screen. Then, as will be explained below, the dealer would agree to deliver the Treasury note for $1,044,843.75 and repurchase the samRepurchase and Reverse Repurchase AgreementsOne of the largest segments of the money markets worldwide is the market in repurchase agreements or repos Ebook Global money markets: Part 2 is the dollar interest on the financing.Repo Interest1 he following formula is used to calculate the dollar interest on a repo transaction:dollar interest = (dollar principal) X (repo rate) X (repo term/360)EXHIBIT 8.1 Bloomberg Repo/Rcvcrsc Repo Analysis ScreenN161 Guvt RRRAEbook Global money markets: Part 2
8 /SBTBQT^IOĨ??-CifelPT912^?7B2PRICE YIELD ACCRUED FOP M C*V9.TOTAL 104.4843750103-7«45039992Repurchase and Reverse Repurchase AgreementsOne of the largest segments of the money markets worldwide is the market in repurchase agreements or reposRepurchase and Reverse Repurchase AgreementsOne of the largest segments of the money markets worldwide is the market in repurchase agreements or reposGọi ngay
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