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Repos & Reverse Repos

 

Repos (or Repurchase Agreements) are a very popular mode of short-term (usually overnight) borrowing and lending, used mainly by investors dealing in government securities. The agreement involves selling of a trench of government securities by the seller (a borrower of funds) to the buyer (the lender of funds), backed by an agreement that borrower will repurchase the same at a future date (usually the next day) at an agreed price. The difference between the sell price and the repurchase price represents the yield to the buyer (lender of funds) for the period. Repos allow a borrower to use a financial security as collateral for a cash loan at a fixed rate of interest. Since repo agreements have T-bills as collaterals and are for a short maturity period, they virtually eliminate the credit risk.

Reverse repo is the mirror image of a repo, i.e., a repo for the borrower is a reserve repo for the lender. Here, the buyer (the lender of funds) buys government securities from the seller (a borrower of funds) agreeing to sell them at a specified higher price at a future date.