What
are tri-party repos?
Overnight
funds predominantly invest their funds in overnight tri-party repos.
Let us
first understand the meaning of a "repo", which is short for
“repurchase transaction”. A repo is a form of short term borrowing, where the
borrower sells securities to the lender, and repurchases them a mutually agreed
higher price at a future date. For example, if Mr X needs to borrow Rs. 100, he
may sell securities to
Mr Y
(the lender) at Rs. 100, and repurchase those securities later (at a
pre-decided date) for a pre-decided price of Rs. 102.
In
substance, Mr X has borrowed Rs. 100, and paid Rs. 2 as interest on the
borrowing. The securities exchanged in the transaction act as a collateral for
a lender. A repo, is therefore, economically similar to a loan transaction.
However,
the above described transaction is a bilateral repo, where only two parties
(the borrower and the lender) are involved.
On the
other hand, a tri-party repo is a repo transaction in which a third-party, or a
"Tri-party agent", acts as an intermediary between the borrower and
the lender. In India, the Clearing Corporation of India Ltd. (CCIL) acts as the
tri-party agent. The tri-party agent is responsible for services such a
collateral selection, payment and settlement, margin requirement and
calculations, and custody and management of the collateral during the life of the
transaction. In India, CCIL therefore acts as the central counterparty to all
trades in the Tri-party Repo Dealing System (TREPS). Government securities and
treasury bills are usually allowed as collateral.
Investors
in overnight funds are usually looking for relatively safer investment avenues
that will help them
preserve
their capital for a short period of time (as short as a day), and at the same
time help them earn returns in line with the risk free rate. TREPS fulfil this
exact requirement. By investing in TREPS with an overnight maturity, and
because CCIL acts as a trusted intermediary, there is almost little to no
default risk.
Overall,
the introduction of TREPS is playing a very important role in expanding the
repo market and facilitating its development. It helps market participants to
use underlying collateral more efficiently and also aims to improve liquidity
in the repo market.
Sources:
Various publications
Disclaimer: The
information provided herein is based on publicly available information and
other sources believed to be reliable, but involve uncertainties that could
cause actual events to differ materially from those expressed or implied in
such statements. The document is given for general and information purpose and
is neither an investment advice nor an offer to sell nor a solicitation. While
due care has been exercised while preparing this document, we do not warrant
the completeness or accuracy of the information. We will not accept any
liability arising from the use of this material. The recipient of this material
should rely on their investigations and take their own professional advice.
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