21.3 REPO TRANSACTIONS

Repo is short for “sale and repurchase”, and as its name implies it is a sale of stock with an agreement to repurchase it at a later date and:

• The seller is lending (or selling) stock and borrowing cash
• The purchaser is borrowing (or buying) stock and lending cash – from this party’s perspective, the transaction is known as a “reverse repo”.

Because the aim of the transaction is to reduce the interest costs of the lender, a much smaller range of securities is acceptable to purchasers. The repo market is mainly concerned with highly rated government debt.

There are two forms of repo transaction – classic repo and buy-sellback.

21.3.1 Classic repo

Classic repo example

On trade date 3 March 2008 ABC Investment Bank enters into a repo agreement with XYZ Fund Managers. ABC is the borrower of cash and XYZ is the lender of cash.