OFR's Treasury Tri-party Repo Pricing
The U.S. Treasury's Office of Financial Research published a paper on "Treasury Tri-party Repo Pricing." It tells us, "The U.S. tri-party repurchase agreement (repo) market segment is a large over-the-counter venue critical for more than $2 trillion in daily funding and central bank open market operations. Using a confidential and comprehensive dataset, this paper examines the pricing of overnight tri-party repos, a key input to the U.S. Secured Overnight Financing Rate benchmark. Despite these transactions having negligible maturity, collateral, and counterparty risk, there is significant variation in the prices that market participants receive, which depend on (1) the number of counterparties they frequently trade with, (2) the degree of diversification across those counterparties, and (3) the share of trading activity those counterparties represent. Notably, during periods of market stress, these features can significantly alter the pricing impact experienced by borrowers." The paper says, "This market provides a unique venue in which a diverse set of institutions invest their cash and obtain large amounts of funding on a daily basis. Beyond its important funding role, this market plays a critical function in U.S. monetary policy as it is used by the Federal Reserve (Fed) to influence rates through open market operations. Overnight transactions collateralized with U.S Treasuries, or overnight tri-party repos, are also important as their rates serve as a key input to the Secured Overnight Financing Rate (SOFR). Despite its significance, pricing in this market remains imperfectly understood, largely due to the absence of publicly available disaggregated data. By leveraging a confidential, comprehensive transaction-level dataset, we aim to fill this gap by empirically studying how frictions in this market can alter tri-party repo pricing." The piece adds, "The bilateral nature of repos means that participants privately negotiate terms, each with partial knowledge about the terms available to others. As a result, prices can be influenced by participants' private information, preferences, and alternative trading opportunities. Also, because repos resemble collateralized loans, factors such as collateral, loan maturity, and counterparty risk can affect prices. To remove the impact of as many factors as possible, we deliberately focus on overnight Treasury tri-party repos where considerations about maturity, collateral, and counterparty risk are likely to be negligible."
