Repo 105: The Magic Words that Made $50 Billion in Liabilities Disappear

Abracadabra and David Copperfield are ancient history. The new magic words are Repo 105, and the real magicians seem to be the ingenious accountants at the large banks that make billions of leverage disappear off the banks’ balance sheets. Bankruptcy examiner Anton Valukas issued a report in which he revealed how Lehman Brothers used Repo transactions to hide billions of its debt.
 Repo is a popular abbreviation for repurchase agreement, in which a bank borrows cash for a short period of time and at the same time, puts its assets as collateral for the transaction. The trick is, that if the value of the collateral represents larger than 102% of the value of the borrowed funds (in Lehman’s case it was 105%, hence the name, Repo 105), the transaction can be recorded as a sales of the assets. And this is exactly what the guys at Lehman did to keep the company from sinking in debt. They borrowed funds at the end of a quarter through a Repo 105 transaction, paid off the billions of debt on their balance sheet, and a few days into the next quarter they borrowed new funds to repay the Repo loan with interest and reacquire their assets back. The two issues still at large are: 1) it is unknown how many banks have been/ are still using this trick, and 2) why Ernst & Young did not raise the red flag during their audits especially when they were warned about the practice by one of Lehman’s Senior VPs.

Unfortunately for me, the magic words Repo 105 will not make my student loans disappear, I guess because 1) I am not a bank, and 2) I do not have Ernst & Young to back me up…