Borrowing funds via repurchase agreements, Financial Management

Assignment Help:

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.


Related Discussions:- Borrowing funds via repurchase agreements

Homework, Assume Main Street Store’s Net Sales in 2010 were $1,000,000 and ...

Assume Main Street Store’s Net Sales in 2010 were $1,000,000 and it’s Net Income in 2010 was $17,000. Thus, between 2010 and 2011 Main Street Store’s net sales increased 20%. Durin

Calculate the expected return and standard deviation, Benjamin Tang current...

Benjamin Tang currently has holdings in the following three companies:                                                                             E(R)                      σ

Ways and means advances, WAYS AND MEANS ADVANCES (WMAs) WMA is not a pe...

WAYS AND MEANS ADVANCES (WMAs) WMA is not a permanent source of financing government deficit. But, this is likely to provide greater autonomy to the RBI in conducting monetary

Leverage, What are the importance of leverage on a small scale firm?

What are the importance of leverage on a small scale firm?

Market efficiency, Market Efficiency Though there are various markets p...

Market Efficiency Though there are various markets present in the financial system, the ease with which the transfer of funds take place depends on the level of efficiency pres

Examine about the risk-based auditing, Examine about the Risk-based auditin...

Examine about the Risk-based auditing A risk based audit will be reviewing the risk management process and considering main risks of the organisation as a whole. Risk manage

Operating cycle, discuss the applicability of operating cycle and any other...

discuss the applicability of operating cycle and any other financial knowledge to poultry business in uganda

Describe about accountants report, Q. Describe about Accountants Report? ...

Q. Describe about Accountants Report? Accountants' Report - Formal document which communicates an independent accountant's: (1) expression of limited assurance on FINANCIA

Show the statement of financial position, A friend is looking for advice on...

A friend is looking for advice on one of his investments, KER. KER manufactures stationery supplies, the entity appointed a new Chairman in 2008 and since then has been executed an

Valuation, Valuation The process of finding out the current value of an...

Valuation The process of finding out the current value of an asset or company is known as valuation. There are various techniques that can be utilized to find value, few are su

Write Your Message!

Captcha
Free Assignment Quote

Assured A++ Grade

Get guaranteed satisfaction & time on delivery in every assignment order you paid with us! We ensure premium quality solution document along with free turntin report!

All rights reserved! Copyrights ©2019-2020 ExpertsMind IT Educational Pvt Ltd