Repurchase Agreements/Repo Agreements

Whenever the banks have any shortage of funds they can borrow it from RBI. Repo rate is the rate at which our banks borrow rupees from RBI. A reduction in the repo rate will help banks to get money at a cheaper rate. When the repo rate increases borrowing from RBI becomes more expensive.

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[A Repo deal is one where eligible parties enter into a contract with another to borrow money against at a pre-determined rate against the collateral of eligible security for a specified period of time. The legal title of the security does change. The motive of the deal is to fund a position. Though the mechanics essentially remain the same and the contract virtually remains the same, in case of a reverse Repo deal the underlying motive of the deal is to meet the security / instrument specific needs or to lend the money. Indian Repo Market is governed by Reserve Bank of India. At present Repo is permitted between permitted 64 players against Central & State Government Securities (including T-Bills) only at Mumbai. Source: www.fimmda.org]

Normally for the repo and reverse repo auctions amount is periodically published by the RBI and the targets are mainly given to the primary dealers. When the RBI feels that there is excess liquidity in the system, it will focus more on reverse repos and vice versa.

Repo transactions can be made for a period which commences with an overnight and maximum period is 14 days. However overnight repos are popular. When repo rate increases, it clearly gives signals of increase in the overall rates of interest. Both are rates are also known as the policy rates and are extremely useful weapons to the regulator.

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Commercial Paper (CP)

Commercial paper performs the financial disintermediation function. CP is a short-term instrument, introduced in 1990, to enable non-banking companies namely Corporates, Financial Institutions (FIs), Primary Dealers (PDs) to borrow short-term funds through liquid money market instruments. CPs were intended to be part of the working capital finance for corporates.

 

Features of CP:

1. CP can be issued either in the form of a usance promissory note or in a dematerialized form through any of the depositories approved by and registered with SEBI.
2. Issued subject to minimum of Rs 5 Lakh (face value) and in the multiples of Rs. 5 Lakh thereafter,
3. Maturity is 7 days to 1 year
4. Unsecured and backed by credit of the issuing company
5. CP may be issued on a single date or in parts on different dates provided that in the latter case, each CP shall have the same maturity date.

Who can invest in CP?

1. Individuals,
2. Banking companies,
3. Other corporate bodies registered or incorporated in India
4. Non-Resident Indians and Foreign Institutional Investors (However, investment by FIIs would be within the limits set for their investments by SEBI).

Factors affecting price of CP:

1. Call money market rates
2. Competing money market investment products
3. Liquidity
4. Credit rating

Calculations are same as we did for treasury bill as CPs are also issued at discount to face value.

Who is eligible to issue CP:

A corporate would be eligible to issue CP provided –

1. the tangible net worth of the company, as per the latest audited balance sheet, is not less than Rs. 4 crore
2. company has been sanctioned working capital limit by bank/s or all-India financial institution/s; and
3. the borrowal account of the company is classified as a Standard Asset by the financing bank/s/ institution/s.

The minimum required credit rating for CP is P2 by CRISIL or equivalent if rated by other rating agency.