Leverage
Leverage
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R = R_e + ((D/E)*(R_e-C))
R is
the total leverage return
R_e is
the return without leverage
D is
the borrowed debt
E is
the equity
C is
the cost of debt
Duration = (Duration of investment x total
investment fund – duration of debt * debt)/ equity
This means the
change of your equity for 1% change of interest rate
Repurchase
agreement: use 1/360 to find daily rate
Repo price
Repo rate
This is just a
collateralized loan. (The treasury securities)
The lender faces
credit risk if the collaterals (the securities) are still with the borrowers.
Need:
Physical delivery,
clearing banks, electronic transfers, or low credit risk etc.
Repo rate increases
if:
1) Credit risk increases (assume no physical
delivery)
2) Quality of collateral decreases
3) Terms of repo increases (not the maturity of
the collaterals)
4) No delivery
5) Availability of collateral increases
6) Federal Fund Rate increases
7) Demands of repo increases
Repo rate increases if:
1) . common 2) . common 3) Terms of repo increases . common (not the maturity of the collaterals. Explain why or why not? saw in Shweser?) 4) . common 5) . common 6) . common 7) . common
Term of Repo is related to how long the borrowed money will be returned. The longer the term, the higher the probability of default and thus the higher the credit risk.
The underlying collateral maturity is almost irrelevant to the credit risk. For example, I can borrow 1M from you overnight using my some bonds as collateral. Whether these bonds are 5 years or 10 years to mature almost has no effect on the credit risk you are facing.