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I’m glad to report that electricity has been restored to the Chu-Carroll
\nhousehold. So now I’m trying to catch up.<\/p>\n
During the outage, I got a bunch of questions about the latest news coming The whole repo105 thing is interesting to me, not so much because of what <\/p>\n Let’s start with the basics: what’s a repo? Before getting questions about A repurchase agreement is, effectively, a kind of short-term loan. Suppose So far, there’s nothing remotely questionable about this. It’s a perfectly Where things start getting tricky is when you look at the interaction So, what happens if you’ve got a repo? Theoretically, you’ve sold the It turns out that the legal distinction is based on how much money you get So, a repo105 is a repurchase agreement where you borrow $100, using $105
\nout of the big financial disasters. A major report came out about the failure
\nof Lehman Brothers, and one thing that’s been mentioned frequently is
\nsomething called repo105<\/em>. <\/p>\n
\nit actually means, but because of how it’s been reported. The term has been
\nmentioned everywhere – but trying to find any information about just what the
\nhell it means seems to be next to impossible. It’s absolutely amazing how many
\nplaces have reported on it without bothering to explain it.<\/p>\n
\nthis from you folks, I had no idea. The only way I’ve ever seen the term
\nbefore was reposession – as in repo-men – the nasty people who come to take
\nstuff away from you if you miss payments. In financial circles, a repo is a
\nrepurchase agreement<\/em>.<\/p>\n
\nthat you’re a bank. Today, you’ve got $1000 worth of investments, and $500
\nworth of cash on hand. You’ve previously made a loan of $1000 to someone which
\nis due to be repaid tomorrow – so tommorow, you’ll have $1500 worth of cash.
\nBut you’ve got a contract that requires you to pay $750 to someone else today.
\nYou don’t have the cash to make the payment. And you don’t want to sell your
\ninvestments just to cover you for 24 hours. So what you do is take $250 worth
\nof your investments, and sell them to someone under a contract that specifies
\nthat you’ll buy them back tomorrow for $260. The “buyer” doesn’t really own
\nthe stuff you sold them; they’re not allowed to sell it to anyone else. It’s
\nreally just collateral on a loan: you’re really borrowing $250 from them, with
\na promise of $10 worth of interest for the loan. The property is just
\ncollateral. That kind of a loan is called a repo.<\/p>\n
\nreasonable thing to do. Large financial companies have huge numbers of
\ncontracts with different timings; getting everything timed properly is
\nfrequently impossible without the use of short-term loans to cover gaps. And
\nin fact, there are variants of this that get used by individuals all the time.
\nFor example, when my wife and I bought our current house, we were also selling
\nour old house. The contract on the new house specified a close date
\nbefore<\/em> the closing on our old house. Since we were using some of the
\nmoney from selling the old house to make the downpayment on the new one, we
\nhad a problem. So we took a loan against the equity we had in our old house,
\nand used it to cover the downpayment in that gap. In financial terms, what we
\ndid was effectively the same thing as setting up a repo on our home
\nequity.<\/p>\n
\nbetween repos and financial statements. Large institutions have to
\nperiodically file statements describing where their money is. They need to
\naccount for all of their property and what it’s worth. If some piece of
\nproperty lost value, then they need to report that. <\/p>\n
\nproperty in exchange for cash. But you’ve also got a contract to re-buy it. So
\nif it’s worth less than you’ve claimed in the repo, then you’re still on the
\nhook for the difference. On the other hand, there are all sorts of incredibly
\ncomplicated contracts that involve buying and selling different things at
\ndifferent times. So the laws on reporting set up a standard for
\ndifferentiating a repo from a simple sale that’s part of a more complicated
\ncontract.<\/p>\n
\nfor the property. After all, if it’s collateral, you’re putting up $100 worth
\nof collateral to secure $100 worth of loans: why would you put up more
\ncollateral than you needed to? So if you set up a repo with $105 dollars worth
\nof collateral for a $100 loan, then legally, you can<\/em> treat it as a
\nsale (at a loss) of the property you’re using as collateral.<\/p>\n
\nworth of property as collateral. Then you can, in your financial statements,
\nput that down as a sale with a roughly $5 loss. But why would you want to do
\nthat?<\/p>\n