Finance term
Repo (Repurchase Agreement)
Also known as: repo, repurchase agreement, overnight repo, reverse repo
Definition
A repurchase agreement (repo) is a short-term borrowing mechanism in which one party sells securities to another with a contractual agreement to repurchase them at a slightly higher price — typically overnight — making it the primary instrument of Federal Reserve open market operations.
Detailed explanation
A repo is effectively a collateralized short-term loan: the seller (borrower) receives cash and pledges securities (usually U.S. Treasuries) as collateral; the buyer (lender) earns the spread between the sale price and the higher repurchase price. The difference in prices, expressed as an annualized rate, is the 'repo rate.'
The Federal Reserve uses repos extensively in its open market operations to implement monetary policy. When the Fed conducts a repo — purchasing securities with an agreement to sell them back — it injects reserves into the banking system, putting downward pressure on the federal funds rate. When the Fed conducts a reverse repo, it drains reserves, putting upward pressure on rates. The Desk's repo operations are published daily by the Federal Reserve Bank of New York (newyorkfed.org/markets/desk-operations/repo).
For businesses, repo rates matter because they sit at the base of the short-term credit stack. Repo rate movements flow through to commercial paper rates, SOFR, and ultimately the cost of working capital lines of credit. When repo markets seize — as they did in September 2019 when overnight rates spiked above 10% — the spillover hits business financing costs across the board. See federalreserve.gov/monetarypolicy/openmarket.htm for current Fed open market operations.
◈ Worked example
- A bank sells $100M in Treasuries overnight at a 5.30% repo rate, receiving $100M in cash; next morning it repurchases the Treasuries for $100,001,472 ($100M × (1 + 5.30% / 360))
- Fed conducts overnight repo of $50B — injects $50B in bank reserves, suppressing overnight rates toward the fed funds target range
- September 2019 repo market stress: overnight rates spiked to 10%+ due to reserve scarcity; Fed restarted open market operations for the first time since 2008 (newyorkfed.org)
Common questions
The most-asked questions about Repo (Repurchase Agreement) — answered straightforwardly.
Why do repo rates matter for small business borrowers? +
Repo rates anchor the short-term funding cost for banks. When repo rates rise, banks' cost of overnight funding rises, and that cost eventually passes through to floating-rate commercial lines of credit, SOFR-linked loans, and short-term credit facilities. Stable repo markets = more predictable business credit costs. See federalreserve.gov for Fed open market operations.
What is the difference between a repo and a reverse repo? +
It depends on which side you're on. The party selling securities (borrowing cash) is doing a repo. The party buying securities (lending cash) is doing a reverse repo. The Federal Reserve's reverse repo facility (RRP) allows eligible counterparties to park excess cash at the Fed overnight — it is a key tool for draining reserves. See newyorkfed.org/markets/desk-operations/repo.
What collateral is used in repo transactions? +
U.S. Treasury securities and agency mortgage-backed securities are by far the most common collateral in U.S. repo markets because they are highly liquid and carry minimal credit risk. The quality of collateral directly affects the repo rate — Treasuries trade at lower (tighter) repo rates than corporate bonds. See federalreserve.gov for context on Fed operations and treasury.gov for U.S. Treasury securities.
Further reading
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https://clearvaluelending.com/glossary/repo-repurchase-agreement