# Query relating to relationship between repo rate, Reverse repo rate and gsec coupon rate

Hey everyone,

1. What is the risk free rate in India? If you would say its the 10 year Gsec yield ( not the coupon since we assume reinvestment at the same YTM rate) then how does this yield change because of a change in repo or reverse repo rate?

I surfed a lot on the above and got to know that as the central bank reduces the repo rate, the existing bonds become pricier as the investors would scramble to collect bonds with higher coupon…( i.e. Reduction in repo would mean reduction in risk free rate which means newer gsec series would give us lower coupons) I need you to take a pause at this juncture…

2.Is risk free rate the repo rate?

With the inherent meaning of repo, I do not find any reason to believe that it actually is the risk free rate since, repo would be the rate at which RBI lends by taking gsecs as collaterals…

Now risk free rate would mean the return I as an investor would get. Why am I supposed to consider repo rate as risk free rate then? It actually is the rate which RBI gets by lending money to commercial banks…

Now, may I argue that reverse repo can be considered as risk free rate? As it actually means the return one would get by lending to the central bank??

3.If my risk free rate is not the repo rate and then if repo rate is reduced, what actually is the mathematical linkage between the G sec coupon rates and repo rate?

1. How does the government decide the coupon rate of a government bond?

In short…

please help me in understanding the linkage between the risk free rate and repo rate/ Reverse repo rate…

Till now, I always felt risk free rate is the 10 year GOI yield. However I do not know the reason of the existence of said notion…

1. If I am an investor who wishes to invest for a period less than 10 years, wouldnt it be justified for me to check the yield of a bond with lesser maturity?

Please revert and let me know where I am going wrong and help me in knowing the fixed income market in the exact way in which it ought to be understood…

Regards,

Akhil Iyer

In the United States, T-Bill returns are considered as the risk free rate of return as it does not carry the default risk since it is backed by the Government, also it does not have interest component so It is not affected by the central bank rate changes.