Implied Repo Rate

What is the 'Implied Repo Rate'

The implied repo rate is the rate of return that can be earned by simultaneously selling a bond futures or forward contract, and then buying an actual bond of equal amount in the cash market using borrowed money. The bond is held until it is delivered into the futures or forward contract and the loan is repaid.

BREAKING DOWN 'Implied Repo Rate'

The repo rate refers to the amount earned, calculated as net profit, from the processing of selling a bond futures contract, or other issue, and subsequently using the borrowed funds to buy a bond of the same value with delivery taking place on the associated settlement date. The implied repo rate comes from the reverse repo market, which has similar gain/loss variables as the implied repo rate, and provides a function similar to that of a traditional interest rate.

Understanding Repos

A repo refers to the repurchase agreements that, by arranging to buy and subsequently sell a particular security at a specified time for a predetermined amount, function as a form of collateralized loan. Generally, a dealer borrows an amount of funds less than a particular bond's value from a customer and the bond functions as collateral. Since the amount borrowed is less than the value of the bond, the lending customer has a reduced level of risk if the value of the bond decreases before the repayment time is reached.

Settlement Date

Terms regarding when repayment on the loan is required, referred to as the settlement date, can vary. In many instances, the funds are only held by the borrower overnight, causing the transaction to complete within a business day. Longer terms can be made available, though the majority remain under 14 days in length.

In transactions between money market funds and hedge funds, a bank may participate as a form of middleman. This allows the money market funds, which are supported by cash, and hedge funds, which are traditionally supported by bonds, to smoothly move funds between entities.

The market upon which these transactions take place is referred to as the repo market. After the financial crisis of 2008, the size of the repo market saw a reduction of approximately 49%, spurred by the bank industry's reluctance to lend Treasurys. This, in turn, made it more challenging for investors in the repo market to find interested borrowers looking for cash.

Applications Outside of the Bond Market

All types of futures and forward contracts have an implied repo rate, not just bond contracts. For example, the price at which wheat can be simultaneously purchased in the cash market and sold in the futures market, minus storage, delivery and borrowing costs, is an implied repo rate. In the mortgage-backed securities TBA market, the implied repo rate is known as the dollar roll arbitrage.

RELATED TERMS
  1. Repurchase Agreement - Repo

    A form of short-term borrowing for dealers in government securities. ...
  2. Reverse Repurchase Agreement

    The purchase of securities with the agreement to sell them at ...
  3. Bond for Bond Lending

    A lending structure used in the Federal Reserve's security lending ...
  4. Bond Futures

    A bond future is a contractual obligation for the contract holder ...
  5. Fixed Income Forward

    A contract to buy or sell a fixed income security in the future ...
  6. Retail Repurchase Agreement

    An alternative to regular savings deposits. Under a retail repurchase ...
Related Articles
  1. Retirement

    Money Market: Repos

    Repo is short for repurchase agreement. Those who deal in government securities use repos as a form of overnight borrowing. A dealer or other holder of government securities (usually T-bills) ...
  2. Insights

    DTCC And Digital Asset Bring Blockchain To Repos

    The rising interest in blockchain has attracted none other than the Depository Trust & Clearing Corporation (DTCC), an entity at the core of post-trade market infrastructure to test bitcoin’s ...
  3. Markets

    The Fast-Paced World of Libor & Fixed Income Arbitrage

    LIBOR is an essential part of implementing the swap spread arbitrage strategy for fixed income arbitrage. Here is a step-by-step explanation of how it works.
  4. ETFs & Mutual Funds

    How Interest Rates Affect Mutual Funds

    Find out how changing interest rates impact mutual funds, including bond and money market funds, and how higher rates can discourage investors.
  5. Markets

    Bank of India Cut Interest Rates to 5-year Low

    On 5th April 2016, the Reserve Bank of India cut its benchmark policy rate (repo rate) by 25 basis point to 6.50%, which marks its lowest level since 2011.
  6. Managing Wealth

    20 Investments: Corporate Bond

    What Is It? Similar to a mortgage with a bank, bonds are an issue by a borrower to a lender. When you buy a corporate bond, you are loaning your money to a corporation for a predetermined period ...
  7. Retirement

    Money Market vs. Short-Term Bonds: A Compare and Contrast Case Study

    Discover characteristics of money market and short-term bonds, including how the investments are alike and different, and the benefits and risks each offers.
  8. Managing Wealth

    The Basics Of Bonds

    Bonds play an important part in your portfolio as you age; learning about them makes good financial sense.
  9. Personal Finance

    How To Choose The Right Bond For You

    Bond investing is a stable and low-risk way to diversify a portfolio. However, knowing which types of bonds are right for you is not always easy.
  10. Markets

    5 Fixed Income Plays After the Fed Rate Increase

    Learn about various ways that you can adjust a fixed income investment portfolio to mitigate the potential negative effect of rising interest rates.
RELATED FAQS
  1. What risks does the dealer (lender) in a reverse repurchase agreement take on?

    Read about the lender risks of participating in reverse repurchase agreements or for dealers who use the Fed's overnight ... Read Answer >>
  2. What is each party's role in a reverse repurchase agreement?

    Learn about the role of each party in a reverse repurchase agreement transaction, and find out why it's different if the ... Read Answer >>
  3. Which factors most influence fixed income securities?

    Learn about the main factors that impact the price of fixed income securities, and understand the various types of risk associated ... Read Answer >>
  4. What determines the price of a bond in the open market?

    Learn more about some of the factors that influence the valuation of bonds on the open market, and why bond prices and yields ... Read Answer >>
  5. What causes a bond's price to rise?

    Learn about factors that influence the price of a bond, such as interest rate changes, credit rating, yield and overall market ... Read Answer >>
  6. What forms of debt security are available for the average investor?

    Discover the various different types of debt securities, issued by government entities or corporations, that are available ... Read Answer >>
Hot Definitions
  1. Quantitative Trading

    Trading strategies based on quantitative analysis which rely on mathematical computations and number crunching to identify ...
  2. Bond Ladder

    A portfolio of fixed-income securities in which each security has a significantly different maturity date. The purpose of ...
  3. Duration

    A measure of the sensitivity of the price (the value of principal) of a fixed-income investment to a change in interest rates. ...
  4. Dove

    An economic policy advisor who promotes monetary policies that involve the maintenance of low interest rates, believing that ...
  5. Cyclical Stock

    An equity security whose price is affected by ups and downs in the overall economy. Cyclical stocks typically relate to companies ...
  6. Front Running

    The unethical practice of a broker trading an equity based on information from the analyst department before his or her clients ...
Trading Center