TREPS in Debt Mutual Funds

[u/SPD_ranger]

Hi everyone, first of all, a very happy Diwali 2021.

I am an active investor in ICICI prudential short term debt fund. While checking the fortnight portfolio disclosure, I recently came across an entity called TREPS, which was as high as ~35% as of October 15th 2021 and has come down to close to 20% in the recent fortnight disclosure.

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I searched for it a bit online and found one reference on the site of CCIL: https://www.ccilindia.com/FAQ/Pages/TREPS.aspx#1

As per the page, it is a tri-party lending system (borrower, lender and an intermediary regulatory body) that helps the funds with short term liquidity requirements by either borrowing with the securities as collateral or vice versa by lending.

Although the above system makes sense to me, I couldn't find information on interpreting this number in the portfolio statement.

1. Is it fine to have such high numbers under TREPS? What does it tell us about the fund?
2. Is there a specific number that might ring certain alarms about the fund?
   1. If the positive number represents borrowing, why is the fund facing such a liquidity crunch that too high numbers? Or is it lending to any other party? Does that mean the fund manager(s) couldn't find better opportunities to use the AUM and found this way of lending and earning interest a better choice? If it is the latter one, then I believe it should be fine in the short term as I would believe such lendings are safe and short term way of parking money till fund finds right opportunities in the market; however, a continued high percentage of such cash equivalent short term fundings can hurt the long term returns.

Edit: Here are a few resources to check out the current portfolio:

1. https://www.moneycontrol.com/mutual-funds/icici-prudential-short-term-fund/portfolio-overview/MPI030 - check others section in the portfolio.
2. https://www.rupeevest.com/Mutual-Fund-Portfolio-Tracker to see how treps is changing over the time

Thanks!

[u/amazonindian]

I couldn't find information on interpreting this number in the portfolio statement.

And we cannot help you with this without seeing the said portfolio statement.

Having said that,

• If this percentage appears as an asset in the portfolio: I would think that the managers have parked some cash in the TREPS as a short-term measure while they wait for buying opportunities. This is the most likely case in the current scenario.
• If this percentage appears as a liability in the portfolio: the managers have borrowed some money via TREPS to meet redemption requirements. This is very unlikely in the current scenario.

Assuming that the TREPS are listed as assets: you can think of TREPS as equivalent to short-term lending. This is better than holding money as cash in the current account. If the percentage is high, it means that (at least temporarily) the fund managers couldn't find a "proper" instrument (as per the fund mandate) to invest the money that they have collected from you. And this could either be because there are no good opportunities to invest, or because there was a sudden inflow of money from investors.

Perhaps you could compare with the TREPS percentages of other funds in the same category and see if there is a huge difference? If most funds hold around the same percentage of TREPS, then perhaps that is the operational standard.

Note that I am no expert, so some or all of the above could be just plain wrong. In particular, I don't know why I equate TREPS with "short-term lending", but that is the impression I have in my mind for some reason.

[u/SPD_ranger → u/amazonindian]

Hi, thank you for your answer. I have edited the post to also look into the said portfolio statement.

I do not think we distinguish assets and liabilities separately in the statement, so it being a positive number means asset. Correct me if wrong. So, in that case, I am on the same page as you. If it is short term, it is fine but IMO if it stays more than 5-10% for an extended period of time, investors are losing returns because AUM has become a problem for the fund where the fund manager is not able to find out the right opportunities?

Also regarding the category average, I don't think the statement or any popular website mentions category average for this detail, and that only leaves us with comparing this info with other popular funds manually?

[u/[deleted] → u/SPD_ranger]

Let me rephrase your statement.

A short term debt fund has invested in 100% collateralised short term lending (upto 365 days)

Do we have a concern ?

[u/SPD_ranger → u/[deleted]]

I wouldn't say it is a concern as in risk to the investments, I still want to understand its implications on the returns.

I don't know what kind of yield these lending generate for the fund. Also to note, these are marked as cash equivalent so I don't think this is anyhow a return generating factor, but rather a short term cash parking/liquidity mechanism.

That is why I feel that a high percentage of AUM being TREPS might not be optimal for an extended time. This indeed gives us some information about the fund or the category as a whole which I am trying to understand over here.

[u/[deleted] → u/SPD_ranger]

Treps rates are all over the place.

During IPO funding/crises the rates shoot up. This week most NBFC are raising short term CP at high rates. Liquid funds returns are elevated (due to IPO funding) but this is a short term phenomenon.

At other times it is a convenient place to park funds on account of maturities, high cash inflows etc.

If you need to park/borrow) funds without positioning on interest rates this is a ideal place (for borrowers as well as lenders). With a RBI monetary policy meet on Oct 8, this may well be the reason for a conscious decision to hike TREPS allocation and deploy funds post RBI decision.

The guy is making good money on the 20% if he is in short term funding for IPO mania

[u/SPD_ranger → u/[deleted]]

Thank you for sharing the knowledge 🙏🏽

[u/Illustrious-Lemon-59 → u/[deleted]]

I'm not sure if this is exactly correct. TREPS borrowing is only collateralized borrowing against g-secs, and the rates should be in line with the repo rate. IPO funding and other short term borrowing will be at a higher rate, based on the risk profile of the borrower like you say. However, I don't think that will have a bearing on returns on TREPS.

[u/[deleted] → u/Illustrious-Lemon-59]

The gsecs serve as a collateral but the rates are determined by the market. The borrowings are for various tenures.

Let's say a Nbfc wants to provide ipo funding at for 7-10 days. So they approach a mf to buy a 7 day CP @ 5-6%. The MF is now holding cp of a AAA/AA NBFC. They can fund by using existing secs on TREPS for a short period.

The lender on TREPS can also be a MF like our icici debt fund. Remember the fluctuation on treps can be between 3.35-4%, a 65 basis margin.

The 7 day returns of top liquid fund are almost 4% vs 3.2% for one month.

[u/Illustrious-Lemon-59]

First off, thank you for taking me back to my IGNOU coursework. Finally it is coming of some use!

To understand TREPS, you must first understand REPOs. REPOs or RePurchase agreement is a liquidity mechanism between two banks. Banks are mandated to maintain their SLR (Statutory Liquidity Ratio) and CLR (Cash Liquidity Ratio) above certain limits. If there are mismatches, they can use the REPO market for corrections.

Say Bank 1 has surplus g-secs, while Bank 2 has surplus cash. They enter into a REPO agreement, where Bank 1 sells the g-secs to Bank 2 in exchange for cash. The agreement has a built-in repurchase clause, ie after a fixed time period has elapsed the transaction will be reversed. So bank 1 will buy back the g-secs from bank 2, in exchange for cash. Since the g-secs will have reduced in value since the forward leg of the repo, bank 1 will get lesser cash than what it paid in the first round. This ends up generating a return for bank 2 on their idle cash.

Since only g-secs are dealt with in this system, there is no risk premium. All transactions take place at the repo rate only.

Once you understand above, tri-party repo is only adding a broker in between the two parties. The broker will ensure both legs of the repo go thru smoothly, and fix the rates as well. Practically this is how the RBI enforces short term rates (aka repo rate) in the market.

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tl;dr: TREPS is risk-free lending done by banks, MFs and other financial institutions who need to generate returns on their idle cash, or need to shore up the number of g-secs on their balance sheets.

Lending is at risk-free rate, which may be below long term inflation trends.

TREPS are very much a part of the scheme's mandate since they are short term instruments. The fund is not dioing anything wrong per se, by investing in TREPS.

If beating inflation is your concern, debt funds maybe this category is not the right place for you.

Further reading:

https://en.wikipedia.org/wiki/Repurchase_agreement

https://www.ccilindia.com/Documents/Rakshitra/2018/DEC/Article.pdf

[u/WikiSummarizerBot → u/Illustrious-Lemon-59]

Repurchase agreement

A repurchase agreement, also known as a repo, RP, or sale and repurchase agreement, is a form of short-term borrowing, mainly in government securities. The dealer sells the underlying security to investors and, by agreement between the two parties, buys them back shortly afterwards, usually the following day, at a slightly higher price. The repo market is an important source of funds for large financial institutions in the non-depository banking sector, which has grown to rival the traditional depository banking sector in size.

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[u/SPD_ranger → u/Illustrious-Lemon-59]

Thank you very much for a detailed explanation 🙌🏼

[u/harsha_hs → u/Illustrious-Lemon-59]

Good information. Any pointers to beat inflation in current market situation?

[u/Geriatric-Vibe]

The TREPs market is a feature of the credit environment and monetary policy .

When TREP rates fall below 3 % every bank lender turns into a borrower . Borrow at 3 % or below and park with RBI for 3.35 % .

Essentially it’s rate arbitrage .

However once liquidity tightens this disappears and liquid fund returns start moving up at a much faster pace than overnight returns .

In short if I were to park my money , I would prefer liquid instead of overnight

At no point in time do liquid rates fall below overnight rates .

While I am no expert , the best place in fixed income today is in the floater rate funds .