Borrowing funds via repurchase agreements, Financial Management

Repurchase agreement is a contract wherein the seller of a security agrees to buy back the same security from the purchaser at a specified price and time. It is also known as repo or buyback. The price at which the seller agrees to buy back is known as repurchase price. And the date by which the security is to be repurchased is known as repurchase date. Repurchase agreement can be treated as a collateralized loan, where the collateral is sold and later re purchased. The security acts as collateral in repurchase agreements.

A dealer can use repurchase agreement or 'repo' market to obtain finance by pledging the purchased security as collateral to the loan. The interest rate the dealer agrees to pay is known as repo rate. The term of the loan, i.e. the date by which the dealer has to buyback the security and the repo rate are specified in the agreement. In an overnight repo, the term of the loan is one day, in a term repo the term of the loan is more than one day. The difference between the buyback price and the sale price is the actual interest cost of the loan.

Amount of interest depends on the repo rate, the term of the loan and the amount borrowed. The formula to calculate interest is as follows:

Interest = Amount Borrowed x Repo rate x Repo term/360.

Illustration 

Amount borrowed = Rs.30,00,000

Repo rate = 0.06

Repo term = 1 day

Therefore,

   Interest = Rs.30, 00,000 x 0.06 x 1/360 = Rs.500.

Dealers can reduce their cost of funding by using repo market for borrowing funds on a short-term basis. The cost of bank financing is higher than the cost involved while using repo market. To the customer, repo market offers better yield on a short-term loan and the highly liquid nature of the market makes it more attractive.

Reverse repo is an agreement where a buyer purchases securities with an agreement to resell them at a specified price (which is higher than the buying price) on a specified date.

Posted Date: 9/11/2012 1:40:18 AM | Location : United States







Related Discussions:- Borrowing funds via repurchase agreements, Assignment Help, Ask Question on Borrowing funds via repurchase agreements, Get Answer, Expert's Help, Borrowing funds via repurchase agreements Discussions

Write discussion on Borrowing funds via repurchase agreements
Your posts are moderated
Related Questions
182-Day T-Bills Following the Sukhamoy Chakravarty Committee recommendations, in November, 1986, 182-day T-bills were introduced in order to develop the short-term money market

What is the advantages of IFRS 8 Advantages Allows users to view internal management's approach and highlights what's important from management's point of view.

E v aluation of  bids and determination of the lowest  evaluated responsive and qualified bidder You learnt how to receive and open bids in the previous sub section. Here you

given just the sales and profit values, how is the break-even sales calculated?

Individual Project Due Date: Mon, 06/08/15 Points Possible: 100 Deliverable Length: 8-10 slides with speaker notes Description: You are the CFO of a 400-bed hospital in Texas

Issuance of securities  : Security issues by companies are a novel and common way of raising funds that in turn help realize their growth aspirations. It is therefore necessary

Will you please define the working capital and Calculation of working capital? I need urgent help in my assignment. help me!

how do we get the pvif of a perpetuity

Q. What is Emerging Issues Task Force? Emerging Issues Task Force (EITF) - Assists FINANCIAL ACCOUNTING STANDARDS BOARD (FASB) and provides guidance on early identification of

Tokyo Stock Exchange In the 1870s, a securities system was introduced in Japan and public bond negotiations began. This resulted in a demand for public trading institution, whi