REPO transactions, which can also be called contracts with a repurchase obligation, have become quite popular. Their tangible advantage is that they open up the possibility of lending, where securities are used as collateral. The reverse process is also possible. This approach greatly facilitates the workdays of many companies.
What is a REPO
So, we are talking about a deal to sell or purchase a specific security (possibly several), which implies an obligation to repurchase or sell. Moreover, the term and price are also agreed in advance.
You can look at this process from a slightly different perspective. In fact, repos perform the function of short-term loans, where securities act as collateral.
It is worthwhile to understand the following: such transactions are always legally executed not as a loan, but in type of contract sales or purchases. In most cases, short-term debt securities of the financial market act as a guarantee of repayment of borrowed funds.
Thus, REPO is a reliable tool for both parties to obtain loan funds by pledging property in the form of securities.
Some terms
In order to better understand this topic, you need to pay attention to several key concepts. First of all, you need to parse the abbreviation itself. In the original, this concept is defined by the following words: repurchase agreement (REPO). Obviously, the English letters were simply replaced by consonant Russian ones, as a result, we got a REPO. Explanation of the term - agreement on the repurchase.
It makes sense to highlight several popular types of such transactions:
- Reverse REPO. It is a purchase with a resale obligation.
- Direct. Securities are sold subject to subsequent repurchase.
- Exchange transaction. In this case, this refers to the agreement concluded in the stock market. Such a process requires that the repo transaction be noted in the application.
- Sometimes an overnight agreement is used. In this case, the repurchase is realized the day after the process of acquiring securities.
It’s important to understand what the rate of the repurchase agreement is. It is a positive or negative value, which is expressed as a percentage. It is needed to calculate the reverse agreement.
The term repo is another term worth knowing about. Here we are talking about the time interval between the first and second transactions. Having understood these concepts, we can more objectively assess the relevance of such agreements.
What distinguishes repos from other contracts
From the information that was given above, it can be understood that such transactions can be made only with securities, and this fact confirms the current legislation. Therefore, a REPO is an agreement, the violation of which can be considered in court. Although such proceedings are extremely rare.
If we consider such a process in the format of classical economic relations, then from the legal side the repo will look like two separate sale and purchase transactions. After all, the same product is transferred twice.
In this case, there will be one important difference, namely, reverse obligations, which are not in the ordinary business agreement.
A regular sale may sometimes include a buyback right. But this format of the agreement cannot be defined as a REPO, since in the latter, instead of law, the obligation is clearly fixed.
Tangible advantages
Having understood what repos are, it makes sense to pay attention to the strengths of such transactions. First of all, we are talking about the following fact: after the agreement, the buyer of securities does not become the holder of collateral property, such as banks, but its sole owner. That is, only the owner has the right to pledge the owner.
This means that in case of non-repayment of credit funds, the buyer can, without coordinating his actions with anyone, sell the purchased securities at a favorable price for him. Moreover, such a system makes irrelevant checks on the borrower's liquidity, as well as an assessment of its solvency. This greatly simplifies the transaction process and neutralizes risks as such.
Also, repos are a great chance to get money for people who are not able to use bank loans for one reason or another.
What can act as a transaction object
If you pay attention to the 51st article of the law on securities, you can find out what is considered a financial asset in the framework of repos:
- Mutual funds, they investment units funds. At the same time trust management must be carried out by a resident of the Russian Federation.
- Deposit receipts for shares of foreign companies.
- Mortgage and clearing certificates of participation. They must confirm ownership of part of the mortgage or property pool.
- Shares of residents of the Russian Federation.
At the same time, trying to understand what a repo is and what the assets in it look like, you need to pay attention to transactions of the Bank of Russia. Their goal is to maintain the liquidity of the banking system itself, including microfinance organizations. Similar operations can also be used to arrange loans, where state treasury bonds act as collateral.
If necessary, the Central Bank’s website provides access to information regarding auction dates, interest rates and the list of shares of those enterprises that were allowed to enter into transactions with pledged securities.
What is a currency repo
In fact, this definition is used when it is necessary to describe bank lending to enterprises on the basis of a pledge transaction.
When an enterprise needs money, and a significant amount, it can receive it from the bank, acting on the basis of repos. This is one of the most convenient tools for companies operating in the Russian market, as it neutralizes the need for property collateral. This type of transaction is popular for other reasons:
- no need to open a bank account to get a loan;
- this scheme is the most affordable way to obtain the necessary funds by a legal entity without the risk of loss of assets;
- if necessary, a loan can be taken for one day;
- interest payments should be made only at the end of the transaction;
- another tangible plus lies in the fact that the loan amount can reach 90% of the market value of the shares of the company receiving the money;
- in most cases, when concluding an agreement, Russian banks do not charge additional fees.
Cons of currency transactions with collateral
No shortcomings, too. REPO is a transaction, before the conclusion of which it is important to consider its following features:
- since we are talking about banks, interest on the use of credit funds is inevitable;
- Russian banks are ready to accept far from all securities as collateral;
- after the transaction is concluded, the owner of the assets changes, which poses a certain risk to the company.
In fairness, it is worth noting that the risks were originally laid in the currency repo. This, so to speak, is an inevitable negative in the framework of this process.
Differences from a loan agreement secured by securities
Initially, it might seem that such a contract and repurchase agreement are one and the same operation. Nevertheless, in practice, everything looks a little different.So, here are a few key differences of this collateralized loan from repos:
- a buyback transaction can be concluded by any participant in the stock market, while only banks can provide loans secured by securities;
- a bank loan is issued exclusively in a specific currency, and a transaction with reverse obligations involves the use of securities instead of money;
- Often, repos provide an opportunity to take advantage of more favorable loan conditions than bank ones;
- The advantage of bank offers is that those securities that are transferred to them as collateral remain in the ownership of the person who received the loan, in the case of repos the situation looks diametrically opposite.
What about taxes
For a better understanding of what repos are, you need to pay attention to the available tax benefits.
The current legislation allows you to take advantage of preferential taxation in the case of agreements based on the obligation to repurchase. The usual purchase and sale of securities does not give such advantages.
If we consider the benefits of repos on the example of specific schemes, then it makes sense to pay attention to the following options:
- The ability to pay interest on foreign loans. This option is valid only in the case of jurisdiction that has entered into an agreement with the Russian Federation regarding the avoidance of double taxation. An example is Cyprus.
- Deferral of income tax. In this case, Art. 282 of the Tax Code.
- Improved financial reporting framework. As part of accounting, there are no special requirements for repurchase agreements. That is, the agreement can be formalized as two consecutive sales transactions. As a result, EBITDA is improving, which increases the investment attractiveness of the company.
Summary
Lending against securities with a repurchase obligation can be defined as one of the best tools for obtaining the necessary funds. With such agreements, everything takes place at an official level, and risks are minimized.
