Suppose that the Treasury bill futures price for a contract...

Suppose that the Treasury bill futures price for a contract maturing in 33 days is quoted as 90.04 and the discount rate for a 123 -day Treasury bill is $10.03 .$ What is the implied repo rate? How can it be used?

Key Concepts

Treasury Bill Futures

Treasury bill futures are standardized contracts that allow investors to buy or sell U.S. Treasury bills at a predetermined price on a future date. These contracts are used to speculate on or hedge against changes in short-term interest rates and incorporate market expectations about future yields on Treasury bills.

Implied Repo Rate

The implied repo rate is the return that an investor can theoretically earn by purchasing the underlying security (in this case, a Treasury bill) and financing that purchase through a repurchase agreement. It is derived by comparing the cost of acquiring and holding the asset with the pricing of its corresponding futures contract, providing insight into the cost of carry and potential arbitrage opportunities in the market.

Repurchase Agreement (Repo)

A repurchase agreement is a short-term secured financing arrangement where one party sells a security with an agreement to repurchase it later at a higher price. The difference between the sale and repurchase prices reflects the financing cost, or repo rate, making repos an essential tool for managing liquidity and short-term funding needs in the financial system.

Arbitrage Strategy

Arbitrage involves exploiting pricing discrepancies between related financial instruments—in this context, between the cash market for Treasury bills and their futures contracts. By comparing the implied financing cost (repo rate) with prevailing financing rates, market participants can identify and execute strategies that lock in risk-free profits while simultaneously managing interest rate risk.

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