The term REPO is a contraction of the "Sale and Repurchase Agreement". It refers to a transaction in which two parties simultaneously agree on two transactions: a sale of securities for cash followed by a forward repurchase on a prearranged date and price. This transaction is referred to as a repurchase agreement.
This transaction represents a repurchase of securities by the lender of cash and a repurchase of securities by the lender of securities.
The security backed by the repo is the collateral of the transaction.
The temporary transfer of securities or receivables is accompanied by a real transfer of ownership.
Repos generally have a short maturity ranging from one day to one year. The flexibility of maturities is one of the main advantages of the repo, which gives a wide variety of possibilities for investing cash at varying maturities. Its other advantage is of course the very low risk associated with collateralised loans, which makes it attractive to investors.
If the seller defaults and does not repay the liquidity, the buyer (investor) can keep the securities. For the liquidity borrower, the advantage is to use an investment in his portfolio to obtain funds at a lower rate, or simply to be able to borrow.
If ownership of the collateral is transferred to the buyer, this is called delivery repo. The buyer has the right to use the securities during the repo period, but is obliged to return them to the seller at maturity. If the bonds are pledged for the benefit of the buyer but the ownership remains that of the seller, this is called repo hold-in-custody. If the seller defaults and does not repay at the end of the contract, ownership of the securities is automatically transferred to the buyer.
From the seller's point of view, we talk about repo: sale followed by redemption, from the buyer's point of view, we talk about reverse repo: purchase followed by resale.
There are three main constructions of repo: the classic repo, the buy and sell-back and the securities lending, the model is similar in all three cases.
Types of Repo Operations
Buy and Sell Back
Delivery Versus Payment
Hold in Custody
Cross Currency Repo
Repos by asset type
|GC Repo (General Collateral)||Specific Repo|
|Purpose||Lend or borrow cash||Lend or borrow a specific security|
|Delivery||The underlying security is not essential. Equivalent quality within a basket of securities.||Delivering the specific security is essential|
|Origin||Interest rate market||Bond market|
|Standardisation of the market||High: structure of terms, quality of securities, basket||Low: depending on the news from issuers and the strategies of the participants|
|Market share||80% of the repo market||20% of the repo market|
General Collateral (GC) Repo
This repo transaction consists in the exchange of any type of securities against cash. GC repos are considered by institutional investors as a monetary instrument whose rate can be compared to those of other monetary instruments (negotiable certificate of deposit, fixed-rate treasury bill, or commercial paper).
Securities are the subject of a specific request in terms of category (bond issued by the state, public sector...), duration, and/or issuer. The issuers being more secure, returns for investors are theoretically higher for specific repurchase agreements than for GC repos.
Repo Market Participants