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FRM Part II · FRM Exam Part II · Repurchase Agreements and Financing

In the tri-party repo market, the daily unwind of trades each morning leaves the clearing bank extending intraday credit to dealers. What is the main risk this practice creates?

The clearing bank takes intraday credit exposure to the dealer. Investors are repaid at the morning unwind, so the bank effectively finances the dealer's collateral until new repos settle. If the dealer fails in that window, the clearing bank is exposed and relies on the collateral.

  1. AThe clearing bank bears exposure to a dealer's failure during the intraday period when cash has been returned to investors but new financing is not yet in placeCorrect
  2. BCash investors bear market risk on the collateral while the unwind is occurring
  3. CDealers face a rise in haircuts because collateral is revalued at the unwind
  4. DThe central bank is forced to set the repo rate for the day

Explanation

At the unwind, investors receive their cash back and the clearing bank funds the dealer's securities until new repos settle later in the day. If the dealer fails during this window, the clearing bank is left holding the exposure, secured only by the collateral. The other options do not describe the intraday credit problem.

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