The borrowing and lending segment in the money market plays a vital role in the financial system of any economy to help meet market participants' demand and supply of short-term funds.

The borrowing and lending segment for money markets is divided into two categories: Without Collateral and With Collateral.

Without collateral borrowing and lending segment includes money market tools such as call money, notice money, and term money market.

With collateral borrowing and lending segment includes tools such as the market repo, tri-party repo, and corporate bond repo.

In the collateral borrowing and lending market, borrowers and lenders provide cash or eligible financial securities to meet their short-term funding or securities requirements.

The maturity of the collateral borrowing and lending segment has an important role in aligning short-term money market rates to the Reserve Bank of India's key policy rate – the Repo Rate.

Collateralized Borrowing and Lending Obligations as a new product was launched by the Clearing Corporation of India Ltd. on January 20, 2003, to provide an alternative avenue for short-term liquidity management for market participants.

It facilitated market participants with anonymous order matching online trade facility with efficient price discovery and transparency.

On November 5, 2018, the Clearing Corporation of India Ltd. was authorized by the Reserve Bank of India to act as a Tri-party Repo agent, and the collateralized borrowing and lending obligations segment was converted into Tri-party Repo dealing system.

The tri-party repo enabled the lender to get visibility of the security it has lent money against which was not previously structured in collateralized borrowing and lending obligations tool.

What is Tri-Party Repo?

Tri-party repo is an alternate repo contract that facilitates trading in the repo market with a third-party intermediary between the borrower and lender.

Tri-Party Repo Dealing System is an anonymous order-matching trading platform for executing repo deals between borrower and lender of securities where a third-party intermediary is involved in the collateral selection, payment, settlement, custody, and management during the repo deal period. This dealing system is popularly called TREPS.

In India, Clearing Corporation of India Ltd. acts as an agent in tri-party repo deals. This intermediary agent is referred to as the central counterparty for borrowing and lending of funds against government securities with a tri-party arrangement.

Tri-party repo trades' securities settle on the books of the tri-party agent and cash moves between the lender's and borrower's respective accounts. The securities given as collateral in a tri-party repo cannot be re-pledged outside the tri-party platform.

Unlike normal and traditional Repo, Tri-party repo can be traded in the market. Typically, all tri-party trades are settled on a T+0 or T+1 basis.

The maturity is overnight to 1 year and has a minimum order value of ₹5,00,000 and multiple thereof.

The Reserve Bank of India governs the repo markets in India as per its directions laid out in Repurchase Transactions (Repo) (Reserve Bank) Directions, 2018.

The funds borrowed on Tri-party Repo dealing system are exempted from the Reserve Bank of India's cash reserve ratio or statutory liquidity ratio computation and the security acquired under the deal is eligible for statutory liquidity ratio by the acquiring bank.

Stock Exchanges have also introduced Triparty Repo on Corporate bonds. Unlike Repo, Tri-party repo deals facilitate the trading of Repo, and the seller of the security has a right to substitute the security.

Eligibility

All tri-party agents need to get prior authorisation from the Reserve Bank of India to act as an agent. The central bank has allowed scheduled commercial banks, recognised stock exchanges, and clearing corporations of stock exchanges as eligible tri-party agents.

The eligible participants in the tri-party repo as per the Reserve Bank of India are public sector banks, private banks, foreign banks, cooperative banks, financial institutions, insurance companies, mutual funds, primary dealers, non-banking finance companies, corporates, provident/pension funds, payment banks, and small finance banks.

These eligible entities that want to participate in the tri-party repo need to apply for membership in the Clearing Corporation of India Ltd.'s securities segment and tri-party repo dealing segment. Once the membership documentation is completed, the member needs to deposit a minimum prescribed collateral.

Registered members with the Clearing Corporation of India Ltd. can access the tri-party repo dealing system through INFINET connectivity, while associate members can access the platform through the internet.

Members need to fulfill margin obligations for each of their Tri-party repo transactions by providing an initial margin for borrowing or lending orders.

An upfront minimum cash of ₹1,00,000 towards the initial margin. Any additional requirements are met from the surplus available in the securities deposited towards borrowing limits.

A member is also entitled to receive interest on eligible cash collateral provided in the Tri-party Repo Dealing System collateral based on a rate notified by the Clearing Corporation of India Ltd.

Apart from the initial margin, the mark-to-market margin is also considered to be collected from the member to cover the notional loss in value of their outstanding T+1 trades.

Benefits & Risks

Tri-party repo dealing system allows for faster and more efficient trading of government securities by eliminating the need for physical settlement thus increasing overall efficiency and also reducing the cost that could be incurred for any physical settlement.

Tri-party repo dealing also offers better risk management by allowing borrowers and lenders to manage their liquidity needs and balance their portfolios.

The dealing system offers transparency in pricing thereby allowing market participants to make informed decisions on the market conditions.

Along with the benefits, there are certain risks associated with transacting in the tri-party repo such as liquidity risk, technological risk, and counterparty risk.

The liquidity of the repo market is dependent on the availability of government securities, during times of low supply, the repo market turns illiquid, and participants may find it difficult to execute trades. Although there is a tri-party agent involved in the repo deal and adequate margin collateral is collected to mitigate risk, it could still carry a risk of default by the counterparty.

Only, institutional participants are allowed in the tri-party repo as eligible participants, thus restricting the participation of individual investors.

Sources: Reserve Bank of India, Clearing Corporation of India Ltd.