What is SLR (Statutory Liquidity Ratio) ?

SLR is Statutory Liquidity Ratio. It’s the percentage of  Demand and Time Maturities  that banks need to have in any or combination of the following forms:

i) Cash
ii) Gold valued at a price not exceeding the current market price,
iii) Unencumbered approved securities (G Secs or Gilts come under this) valued at a price as specified by the RBI from time to time.

The maximum limit of SLR is 40% and minimum limit of SLR is 25%. It’s 25% now. This restriction is imposed by RBI on banks to make funds available to customers on demand as soon as possible. Gold and G Secs (or Gilts) are included along with cash because they are highly liquid and safe assets. Read more

October 11, 2008 | Filed Under Bonds | Leave a Comment 

What is CRR (Cash Reserve Ratio) ?

CRR is Cash Reserve Ratio. It refers to keeping a portion of net demand and time liabilities (NDTL) of banks with the central banks (In India it’s Reserve Bank of India, RBI). Central bank fixes this percentage of NDTL. Central bank can change this percentage as a monetary measure to control the availability of funds in the economy i.e. to inject liquidity or to suck liquidity. RBI doesn’t pay any interest on such funds held with it.

The following are the demand liabilities of banks. Banks should pay these liabilities on demand which may come at any time.

All liabilities which are payable on demand; they include current deposits, demand liabilities portion of savings bank deposits, margins held against letters of credit/guarantees, balances in overdue fixed deposits, cash certificates and cumulative/recurring deposits,  Demand Drafts (DDs),unclaimed deposits, credit balances in the Cash Credit account and deposits held as security for advances which are payable on demand.

Time Liabilities are those which are payable otherwise than on demand; they include fixed deposits, cash certificates, cumulative and recurring deposits, time liabilities portion of savings bank deposits, staff security deposits, deposits held as securities for advances which are not payable on demand and Gold Deposits.
 
When a central bank increases CRR, the banks need to reduce the outflow of money by reducing the loans to customers and keep additional amount with the central bank. This usually sucks liquidity in the markets. Let’s examine one by one Read more

October 11, 2008 | Filed Under Bonds | Leave a Comment 

Calculations involved in Repo and Reverse Repo

 

 

A repo transaction involves two legs of calculation. The first one is when cash and securities are borrowed and the second one is when they are returned at the end of the term.

If a security pays a coupon during the term of the repo, the coupon should be appropriately distributed between the two parties because the lender of the securities held them all these days and deserves the major portion of it.

Considering the above fact the settlement amount on the first leg involves the following two components.

The second leg involves the following three components.

Let us take a numerical example

Trade date: 20th July 2004 Read more

July 19, 2008 | Filed Under Bonds | 3 Comments 

Examples of Repo and Reverse Repo

Repo

Consider the scenario wherein a dealer thinks a particular security’s price is about to rise but he does not have the cash to buy that security, then he can borrow the cash from the repo market(say from a bank) in exchange for lending the security. The dealer is said to be doing repo in this case. Here the securities will be transferred to the account of the lending Bank. These securities will be repurchased by the dealer at the end of the term. At the end of the term if the price of the security is increased then he can sell the security in the market to convert into a cash profit.

Carry

Carry refers to the profit or loss that made out of a repo. For a repo transaction, a security’s carry is the Profit/Loss, exclusive of capital gain, earned by the security and financing it with repo. Other words, carry is the difference between the coupon interest earned and the repo interest paid.

Carry can either be positive, negative, or zero.

Positive carry – When income from the asset being financed through a repo exceeds the cost of financing (i.e., repo rate plus expenses).

Negative carry - income from the asset being financed through a repo is less than the cost of financing.

Zero carry - income from the asset being financed through a repo is equal to the cost of financing.

Reverse Repo

A bank funds investors of stock market who feels that the current situation is suitable for investment but don’t have the cash in hand. In this case the bank is said to be doing reverse repo. Actaully in these transactions there are two parties one is doing repo and the other one is doing reverse repo. But the transaction is called repo/reverse repo based on the initiator of the first leg.

In the above example the shares are transferred to bank’s account. Usually banks lend only 70% (or less than 70%) of the funds required to avoid default risks. These are again transferred back to the investors. They are not popular in India.


July 19, 2008 | Filed Under Bonds | 1 Comment 

Controlling Liquidity with Repo Rate and Reverse Repo Rate

Reserve bank controls repo rates and reverse repo rates as a measure of controlling liquidity and inflation. For commercial banks the major source of short term funding is Reserve Bank. Banks go short of money when there is a high demand for loans and the cash in hand at the banks is low. If RBI feels that the liquidity in the system is high and wants to make money more expensive it increases repo rate (The rate at which it lends to banks). Similarly if RBI feels there is a liquidity crunch in the market it reduces repo rate and hence the cost of money. Read more

July 19, 2008 | Filed Under Bonds | Leave a Comment 

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