Cash for Bond Lending
What is Cash for Bond Lending?
Cash for bond lending is a lending structure utilized in the Federal Reserve's Term Auction Facility (TAF), by which borrowers receive a cash loan, by utilizing all or their very own portion portfolio of bonds as collateral.
Understanding Cash for Bond Lending
The cash for bond lending structure isn't to be mistaken for the bond for bond lending structure, in which the borrower takes bonds rather than cash. In the cash for bond lending, the lending transactions are all situated in cash as collateral. In spite of the fact that cash for bond lending could appear to be a moderately direct, okay strategy, specialists alert that it conveys huge and, some of the time, hidden risks. Securities loans collateralized with cash are a well known option in the securities lending market.
One major advantage of the cash for bond lending structure is that it permits borrowers to receive a cash loan in a short amount of time, with no other financial perspectives to swim through. By involving their own portfolio of bonds as a collateral, they are able to, fundamentally, back themselves and streamline the course of loan endorsement. A cash for bond lending structure normally inclines toward borrowers with high levels of cash to work with, something only one out of every odd borrower will approach.
Advantages and Disadvantage of Cash for Bond Lending
One more advantage of a collateral cash market transaction is that involving cash as collateral mitigates the risk associated with supplanting the security on the off chance that the borrower doesn't return it, in light of the fact that the cash is utilized all things considered. Nonetheless, notwithstanding the advantages and shared trait of the cash for bond lending system, a few specialists caution that abuse of the cash for bonds lending structure can debilitate the financial system.
For example, financial bulletin Current Issues made sense of how risk encompassing the cash for bond lending system can emerge when the cash traded is then reinvested, particularly assuming it is reinvested forcefully. The cash reinvestment generally includes both liquidity and maturity transformation, which both can lead to fire sales and run-like behavior.
A liquidity transformation could happen on the off chance that the time expected to sell the cash assets goes past the maturity of the transaction, while maturity transformation can happen assuming the maturity of the acquired assets is more than the maturity of the loan transaction. The pamphlet notes that both inordinate maturity and liquidity transformation from cash securities lending contributed to the financial crisis of 2008.
Highlights
- Cash for bond lending permits borrowers to receive a cash loan by utilizing all or their very own portion portfolio of bonds as collateral.
- Major advantage of the cash for bond lending structure is that it permits borrowers to receive a cash loan in a short amount of time.
- One more advantage of cash for bond lending is that involving cash as collateral mitigates the risk associated with supplanting the security in the event that the borrower doesn't return it.
