Late last week, staffers from both the U.S. Securities & Exchange Commission and the Federal Reserve Bank of New York published papers on the repurchase agreement market. The SEC's piece was a primer entitled, "Money Market Funds and the Repo Market," which was written by Viktoria Baklanova, Isaax Kuznits and Trevor Tatum. They explain, "This primer discusses the use of repurchase agreements (repos) by money market funds (MMFs) and provides a quantitative view of key repo metrics using data from the U.S. Securities and Exchange Commission (SEC) and the Federal Reserve. The metrics cover historical trends in repo assets and liabilities, repo holdings by MMFs, counterparty types, settlement arrangements, collateral securities, and margining practices." We quote from both briefs below.

The SEC update says, "Repos allow one firm to sell a security to another firm with a simultaneous promise to buy the security back at a later date, often the next day, at a specified price. The difference between the sale and repurchase price of the security reflects the implied interest rate. The economic effect of this transaction is similar to that of a collateralized loan. The cash investor in a repo receives securities as collateral to protect her against the risk that the counterparty is unable to repurchase the securities at the agreed date. The market value of collateral typically exceeds the amount of cash invested in a repo by an agreed-upon margin.... The repo market also offers institutional investors such as asset managers, MMFs, and corporations with undeployed cash balances an option to invest cash on a secured basis."

It tells us, "The Federal Reserve estimates the total repo assets (or investments in repos) at around $4.6 trillion as of September 30, 2020. Securities dealers are also the largest investors in the repo market, accounting for close to 28% of the total repo assets as of September 30, 2020, below the 20-year average of nearly 40%. Securities dealers' function as market intermediaries may explain their large shares of both repo assets and repo liabilities. Dealers exchange cash and securities in the repo market on behalf of their clients and to support their own market activity.... Money market funds (MMFs) participate in the repo market by investing cash in repos alongside other types of firms.... As of September 30, 2020, the Financial Accounts of the United States show that MMFs accounted for close to 22% of the total repo assets. MMFs do not incur repo liabilities."

The Primer continues, "The role of MMFs as cash investors in repos has increased over the last 20 years. One reason for the increase is the growth of assets under management in government MMFs, which are required to invest at least 99.5% of their assets in cash, U.S. government securities, or repos collateralized by cash and government securities. Given the investment restrictions, government MMFs usually invest a somewhat larger share of their assets in repos than prime MMFs. For example, as of December 31, 2020, government MMFs allocated over 23% of their assets to repos, while prime MMFs allocated close to 21% of their assets to repos."

It states, "Assets in government MMFs more than doubled in 2016 following implementation of the 2014 MMF reforms and increased considerably once again in the first half of 2020, when demand for government assets surged amidst the COVID-19 pandemic. In March 2020, net assets of government MMFs increased by $838 billion to $3.6 trillion, or up 30% from the end of February. Government MMFs' net assets reached nearly $4.0 trillion at the end of April.... MMFs' investments in repos reached an all-time high of nearly $1.6 trillion at the end of March, when inflows into government MMFs accelerated."

The SEC's piece adds, "Around 70% of MMF repos by volume are either overnight or have open terms and can be terminated at any time. Around 24% of MMF repos have maturities longer than one day but less than seven days, and the remaining 6% of MMF repos feature various other maturity terms. Most MMF repo investments are executed through a third party that provides settlement and collateral management services and are often referred to as triparty repos. In contrast, in a bilateral repo, each counterparty is responsible for the clearing and settlement of the trade, which makes the repo trading more operationally demanding."

In a section on "MMF repo counterparties," it says, "As of December 31, 2020, MMFs' total investments in repos were close to $1.1 trillion. MMFs conduct the great majority of their repo investments with securities dealers, and primary dealers in particular. Non-dealer counterparties include insurance companies, educational institutions, government-sponsored enterprises (GSEs), and the Federal Reserve. Some MMF repos are centrally cleared and novated to the Fixed Income Clearing Corporation (FICC). We review MMF repo investments with each of these counterparty types."

The Primer tells us, "MMFs accept a broad range of securities with varying maturities as repo collateral. Historically, government securities have accounted for the great majority of MMF repo collateral. As of December 31, 2020, around 64% of MMF repo investments were collateralized by Treasury securities and around 31% were collateralized by government agency securities, including mortgage-back securities (MBS).... Under 5% of MMF repos were collateralized by other types of securities, including corporate bonds, equities, and asset-backed securities. Among all MMF types, prime MMFs are the main investors in repos backed by nongovernment securities."

Finally, it says, "In a typical repo trade, the market value of the collateral exceeds the principal amount of the repo by a certain margin required by a cash investor. The overcollateralization is intended to protect the cash investor from the risk that the value of collateral may decline over the life of the transaction and become insufficient to recover the principal and interest should the counterparty default. Historically, MMFs have required counterparties to provide a margin that depends mainly on the quality of the collateral. For example, the required margin of Treasury securities collateral is typically 2% of the repo principal for a total collateral value of 102% of the repo principal (with the exception of trades with the Federal Reserve's RRP, which are not overcollateralized)."

The other paper, posted on the New York Fed's "Liberty Street Economics" blog, is titled, "How Competitive are U.S. Treasury Repo Markets?" It says, "The Treasury repo market is at the center of the U.S. financial system, serving as a source of secured funding as well as providing liquidity for Treasuries in the secondary market. Recently, results published by the Bank for International Settlements (BIS) raised concerns that the repo market may be dominated by as few as four banks. In this post, we show that the secured funding portion of the repo market is competitive by demonstrating that trading is not concentrated overall and explaining how the pricing of inter-dealer repo trades is available to a wide range of market participants. By extension, rate-indexes based on repo trades, such as SOFR, reflect a deep market with a broad set of participants."

The piece explains, "A common use of the repurchase agreement (repo) is as a secured-funding transaction between two financial institutions. Indeed, market participants use repos to borrow more than a trillion dollars against Treasury securities each day to finance their activities. As with most financial markets that trade over-the-counter (OTC), repo transactions can be roughly categorized into two groups: Trades between a broker-dealer and its client, and trades between two broker-dealers. In the United States there are two inter-dealer venues, the GCF Repo and the Fixed Income Clearing Corporation's (FICC's) DVP markets, both of which are centrally cleared through FICC, a financial utility. In contrast, the dealer-to-client market is more decentralized."

It tells us, "We begin by considering both segments of inter-dealer repo, FICC DVP and GCF Repo, together, because of their economic similarity and the ability of dealers to operate in both markets. When we combine trades from both venues for 2020, the resulting concentration measures show that large players do not dominate the inter-dealer market. The top five largest cash-lenders and cash-borrowers account for 44.2 and 40.2 percent of total activity, respectively. Furthermore, the largest ten participants on the cash-lenders and cash-borrowers side account for only 63.6 and 56.7 percent of total activity. These results demonstrate that a broad set of participants are active in the inter-dealer market."

The blog comments, "The results discussed above stand in stark contrast to the recent and well-publicized BIS report which reported that four banks dominate lending in the repo market. The difference lies in the set of participants studied; the BIS report focused on depository institutions whereas this work focuses on all participants. Because depository institutions are not the dominant source of cash in the broader repo market, the different conclusions about concentration between this post and the BIS report are not surprising."

It concludes, "The overnight secured funding portion of the Treasury repo market is not concentrated, but rather reflects trading by a broad group of participants. In addition, pricing transparency helps ensure that Treasury repo is competitive. These are both attractive features for a market which is central to the U.S. financial system. Furthermore, the concentration statistics imply that rate-indexes based upon Treasury repo, such as SOFR, reflect activity across a range of participants."

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