Reverse Repo
AdvancedA reverse repo is the opposite side of a repurchase agreement: one party buys securities and agrees to sell them back at a slightly higher price on a set date, which is effectively a short-term loan secured by the securities.
Every repurchase agreement has two sides. The party selling securities and agreeing to buy them back is borrowing cash, which is a repo. The party buying the securities and agreeing to sell them back is lending cash, which is a reverse repo.
For example, a money market fund with surplus cash might buy government bonds worth 50,000,000 from a bank, agreeing to sell them back the next day at a slightly higher price. For the fund, this is a reverse repo: a safe overnight investment backed by collateral.
Central banks also use reverse repos as a monetary policy tool. In the United States, the Federal Reserve's overnight reverse repo facility allows eligible institutions, such as money market funds, to lend cash to the Federal Reserve, which helps set a floor under short-term interest rates.
Terminology can be confusing, because central banks sometimes describe transactions from their own perspective, so the same operation may be called a repo by one party and a reverse repo by the other.
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