Repo Margin

Repo Margin

A repo margin, also known as a haircut, is the difference between the market value of collateral and the amount of cash loaned in a repurchase agreement (or "repo"). This margin helps protect the lender if the value of the collateral falls during the term of the agreement.

In a repo, one party sells securities to another with an agreement to buy them back later at a set price. The lender provides cash, and the borrower provides collateral—usually bonds or other securities. But since markets fluctuate, lenders want a cushion in case the collateral loses value.

Example: Suppose a borrower pledges $105,000 worth of Treasury bonds in exchange for a $100,000 loan. The $5,000 difference (or 4.76%) is the repo margin. If the value of the bonds drops slightly, the lender is still covered.

The size of the repo margin depends on:

  • Collateral quality: High-quality assets like government bonds usually have lower margins. Riskier assets need higher margins.
  • Counterparty risk: If the borrower has a lower credit rating, the lender may require a larger margin.
  • Loan term: Longer-term repos often have higher margins due to more exposure to price changes.

Repo margins play a key role in managing counterparty risk. By creating a buffer, they help ensure that lenders are not left exposed if the borrower defaults or if market prices shift sharply. This risk management tool is critical in maintaining trust and stability in short-term lending markets.

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Disclaimer: This post is for informational purposes only and does not constitute financial, legal, or investment advice. Please consult a qualified professional for guidance tailored to your situation.

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