When confidence is lost, liquidity absquatulates hence, the phraseology that ‘’capital flight to safe havens’’. This article espouses the haircut on investment and investors’ hairstyle amongst others in Ghana, focusing on the sale and repurchase agreements’ kind of investment (repo).
REPO is a kind of money for organizational investors and non-financial firms who require ways to safely store cash and earn some interest. In a repo transaction, a depositor lodges cash and cash equivalent at a financial institution and receives collateral, valued at market prices.
The transaction is within a short period, so the depositor can withdraw the money at any time. The deposit is supported by the bonds received as collateral from the institution where the money is deposited.
The bonds that the depositor receives can be spent in that they can be used as collateral in another, unrelated, transaction. For example, the bonds could be posted as collateral against a derivatives position. The reuse of collateral is known as rehypothecation.
There may be over-collateralization if the market value of the bonds received exceeds the deposit. For instance, if 80 million cedis is lodged and 100 million cedis of bonds are received, then there is a haircut or initial margin of 20 percent. This is akin to bank capital or a reserve fund as the 20 percent is junior in seniority to the depositor’s 80 percent claim.
But what at all is a haircut, and does it have historical antecedents?
Haircut encompasses the difference between the present market value of an asset and the worth ascribed to that asset for purposes of calculating regulatory capital or loan collateral.
The quantum of the haircut depicts the perceived risk of the asset falling in value in an immediate cash sale or liquidation. The larger the risk or volatility of the asset price, the larger the haircut.
Therefore, a securities and exchange commission that is largely safe with highly liquid assets is likely to have no or lower haircut, compared to volatile or less marketable assets as the case might be in emerging economies such as Ghana.
Well, its basic meaning as espoused by the Hon. Minister of Finance, Ken Ofori-Atta connotes a debt operation bothering on terms of payment of principal and interest on the public debt (government bonds) aimed at ensuring debt sustainability.
The concept of haircut initially originated in the US Securities and Exchange Commission in 1967 to explain the ‘’net capital rule’’.
Lower haircuts allow for more leverage. Haircut plays an indispensable role in several spheres of trades, such as repurchase agreements (referred to in debt-instrument finance as “repo” but not to be bamboozled with the term repossession as used in consumer finance) and reverse repurchase agreements (“reverse repo” in debt-instrument finance). ‘’NOV-DEC’’ revision on Ghana’s debt to GDP shows that, as of December 13, 2022, the Debt to GDP stood at 450 billion cedis, representing 90.7% as compared to 82.1% and 79.1% in 2021 and 2020 resultantly.
Source: Ghana Web
