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Changing short description from "Finance" to "Financial terminology"
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{{Short description|Financial terminology}} |
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In [[finance]], a '''haircut''' is the difference between the [[market value]] of an asset used as loan [[Collateral (finance)|collateral]] and the value ascribed to that asset when used as collateral for that loan (i.e. an ascribed (nominal) reduction to the value of that asset, when it is used as collateral).<ref>[http://www.investopedia.com/terms/h/haircut.asp What Does Haircut Mean?]</ref> The amount of the haircut reflects the perceived risk of the asset falling in value or being sold in a [[fire sale]]; the larger the risk is perceived to be, the larger the haircut will be. The lender will, however, still hold a [[lien]] for the entire value of the asset. In the event the collateral must be sold to repay the loan (i.e. if the borrower cannot repay the loan), the haircut is intended to protect the lender from recovering less than the full value of the outstanding loan amount from sale of that collateral, even allowing for reductions in the market value. |
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In [[finance]], a '''haircut''' is the difference between the current [[market value]] of an asset and the value ascribed to that asset for purposes of calculating [[regulatory capital]] or [[Collateral (finance)|loan collateral]]. The amount of the haircut reflects 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. |
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For example, United States [[Treasury bills]], which are |
For example, United States [[Treasury bills]], which are relatively safe and highly liquid assets, have little or no haircut, whereas more volatile or less marketable assets might have haircuts as high as 50%. |
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Lower haircuts allow for more [[Leverage (finance)|leverage]]. Haircut plays an important role in many kinds of trades, such as [[repurchase agreement]]s (referred to in debt-instrument finance as "repo" but not to be confused with the concept of [[repossession]] denoted by that term in [[consumer finance]]) and [[ |
Lower haircuts allow for more [[Leverage (finance)|leverage]]. Haircut plays an important role in many kinds of trades, such as [[repurchase agreement]]s (referred to in debt-instrument finance as "repo" but not to be confused with the concept of [[repossession]] denoted by that term in [[consumer finance]]) and [[Repurchase agreement#Reverse repo|reverse repurchase agreements]] ("reverse repo" in debt-instrument finance). |
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In mass media,<ref>{{cite news |last=Safire|first=William|author-link=William Safire |date=6 January 2009 |title=Haircut|url=https://www.nytimes.com/2009/01/11/magazine/11wwln-safire-t.html?_r=0|work=[[The New York Times]] |access-date=3 July 2018}}</ref><ref name=beeb>{{cite news |date=10 July 2015 |title=All Greek to you? Greece's debt jargon explained |url=https://www.bbc.com/news/world-europe-33311405 |work=[[BBC]] |access-date=3 July 2018}}</ref><ref name=cnbc>{{cite news |last=Clinch|first=Mark |date=19 August 2015 |title=Why the IMF is wrong on a Greek debt haircut |url=https://www.cnbc.com/2015/08/19/why-the-imf-is-wrong-on-a-greek-debt-haircut.html |work=[[CNBC]] |access-date=3 July 2018}}</ref> as well as in [[economics]] texts,<ref>{{cite book |last1=Brigham|first1=Eugene F.|last2=Houston |first2=Joel F.|date=2011|publisher= Cengage Learning|title=Fundamentals of Financial Management|isbn=978-0538477116}}</ref><ref>{{cite journal |last1=Blundell-Wignall |first1=Adrian |last2= Slovik|first2=Patrick |date=February 2011| url=https://www.oecd.org/greece/46970598.pdf|title=A Market Perspective on the European Sovereign Debt and Banking Crisis|journal= Financial Market Trends|publisher=[[OECD]] |volume=2010|issue=2 |pages=87–108 }}</ref> especially after the [[financial crisis of 2007–2008]],<ref name=kiev>{{cite news |date=29 May 2015 |title=Ukraine creditors' debt plan shows bond haircut inevitable|url=https://www.kyivpost.com/article/content/ukraines-economic-and-financial-crisis/reuters-ukraine-creditors-debt-plan-shows-bond-haircut-inevitable-389863.html|agency=[[Reuters]] |access-date=3 July 2018}}</ref> the term "haircut" has been used mostly to denote a reduction of the amount that will be repaid to creditors,<ref name=cnbc/> or, in other words, a reduction in the [[face value]] of a troubled borrower's debts,<ref name=beeb/><ref group=note>Not just state- but also corporate-debt. See [https://nypost.com/2016/08/22/private-equity-firm-bosses-to-get-370m-windfall-in-caesars-mess/ "Private equity firm bosses to get $370M windfall in Caesars mess"], ''[[The New York Post]]'', 22 August 2016</ref> as in "to take a haircut": to accept or receive less than is owed.<ref>{{cite web |url=https://corporatefinanceinstitute.com/resources/knowledge/finance/haircut/ |title=What is a Haircut (in finance)? |first3=J |publisher=Corporate Finance Institute|access-date=3 July 2018}}</ref> In 2012, world media was reporting on the "biggest debt-restructuring deal in history",<ref name=liu>{{cite journal |last1=Liu |first1=Yan |last2=Bergthaler |first2=Wolfgang |last3=Giddings |first3=Andrew |last4=Kosonen |first4=Amanda|last5=Papaioannou|first5=Michael|last6=Grigorian |first6=David |last7= Guscina |first7=Anastasia |last8=Presciuttini |first8=Gabriel |last9=Tsuda|first9=Takahiro |last10=Baqir |first10= Reza |url=https://www.imf.org/external/np/pp/eng/2013/042613.pdf|journal=Policy Papers|publisher=[[IMF]]|date=26 April 2013|title=Sovereign Debt Restructuring: Recent Developments and Implications|access-date=30 June 2018}}</ref>{{rp|1}} which included the "very large haircut" of some "70 percent of [[par value]]" of Greek state bonds, in [[Net present value|NPV]] terms.<ref name=liu/>{{rp|27}} |
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In popular media, "haircut" has been used to denote a financial loss on an investment, as in "to take a haircut" (to accept or receive less than is owed). Especially following the financial crisis of 2008, the term was popular in political debates surrounding the propriety of various government actions in response to the crisis.<ref>[https://www.nytimes.com/2009/01/11/magazine/11wwln-safire-t.html?_r=0 NY Times Magazine, On Language: Haircut]</ref> |
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==SEC net capital rule== |
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The financial term "haircut" began, and continues to be used, as a reference to valuation discounts applied under the [[U.S. Securities and Exchange Commission]]'s [[net capital rule]]. The net capital rule was adopted to provide safeguards for public investors by setting standards of financial responsibility to be met by [[broker-dealer]]s and requires a broker-dealer to have at all times sufficient liquid assets to cover its current indebtedness. The SEC explained the role of haircuts in calculating net capital in 1967: |
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<blockquote>In computing "net capital," the rule requires deductions from "net worth" of certain specified percentages of the market values of marketable securities and future commodity contracts, long and short, in the capital and proprietary accounts of the broker or dealer, and in the "accounts of partners." (These deductions are generally referred to in the industry as "haircuts.") . . . The purpose of these deductions from "net worth," is to provide a margin of safety against losses incurred by a broker or dealer as a result of market fluctuations in the prices of such securities or future commodity contracts.<ref>Net Capital Requirements for Brokers and Dealers - Interpretation and Guide, Release Nos. ASR-107, 34-8024, 32 Fed. Reg. 856, 1967 WL 88933 (Jan. 18, 1967).</ref></blockquote> |
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"Haircut" since has been extended to a number of other financial contexts, whenever it is desirable to show that some securities (typically debt securities) are being valued for some purpose at a discount. |
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==ECB use of haircuts== |
==ECB use of haircuts== |
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The [[European Central Bank]] applies a haircut to all securities offered as collateral. The size of the haircut depends on the riskiness and [[liquidity]] of the security offered as collateral.<ref>[http://www.ecb.int/pub/pdf/other/riskcontrolframeworken.pdf ECB Risk control framework]</ref> |
The [[European Central Bank]] applies a haircut to all securities offered as collateral. The size of the haircut depends on the riskiness and [[Market liquidity|liquidity]] of the security offered as collateral.<ref>[http://www.ecb.int/pub/pdf/other/riskcontrolframeworken.pdf ECB Risk control framework]</ref> |
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==LTCM and haircut fees== |
==LTCM and haircut fees== |
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The |
The [[hedge fund]] [[Long Term Capital Management]] (LTCM) saw spectacular losses that led to its dissolution in 1998. It had previously been able to trade with little collateral on positions that were considered safe by its lenders.{{cn|date=January 2020}} |
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==As used for exchange-traded products== |
==As used for exchange-traded products== |
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When used in the context of exchange traded products such as [[stock]]s, [[option (finance)|options]], or [[Futures contract|futures]], haircut is used interchangeably with the term [[margin (finance)|margin]]. It is the amount of capital required by a broker to maintain the positions currently in a trading account. If haircut exceeds the account's capital, the broker can either require additional capital (e.g., [[margin call]]), or liquidate positions until the haircut no longer exceeds available capital. |
When used in the context of exchange traded products such as [[stock]]s, [[option (finance)|options]], or [[Futures contract|futures]], haircut is used interchangeably with the term [[margin (finance)|margin]]. It is the amount of capital required by a broker to maintain the positions currently in a trading account. If haircut exceeds the account's capital, the broker can either require additional capital (e.g., [[margin call]]), or liquidate positions until the haircut no longer exceeds available capital. |
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==In sovereign debt write-downs== |
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During the [[Eurozone crisis]], and particularly in the context of the [[Greek financial crisis]], the term "haircut" acquired more specifically the meaning of state-debt holders receiving less than [[par value|par]].<ref name=liu/>{{rp|27}} It's "the market's euphemism for wiping out a large portion of the debt owed to the creditors".<ref>{{cite news |last=Parkinson|first=David |title=Rollover? Haircut? Greece faces ugly choices |url=https://www.theglobeandmail.com/report-on-business/international-business/rollover-haircut-greece-faces-ugly-choices/article586662/ |work=[[The Globe and Mail]] |date=12 July 2011|access-date=3 July 2018}}</ref> |
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The haircut agreed to by Greek-state debt holders was deemed "voluntary" by [[Institute of International Finance|the banks]]' chief negotiator [[Charles Dallara]], although, in order to convince domestic bond holders, the Greek government "made it clear that holdouts would not receive a sweeter deal", while it also declared that if the haircut was not completed, the Greek state would not be able to "further service its debt".<ref>{{cite web|url=https://orbi.uliege.be/bitstream/2268/160460/1/Wautelet.pdf |title=The Greek Debt Restructuring and Property Rights: A Greek Tragedy for Investors?|last1=Wautelet|first1=Patrick R. |publisher=University of Liège)|date=2 July 2013 |access-date=3 July 2018}}</ref> |
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== Notes == |
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{{reflist|group=note}} |
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==References== |
==References== |
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{{stock market}} |
{{stock market}} |
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[[Category:Loans]] |
[[Category:Loans]] |
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[[Category:Bond valuation]] |
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[[category:Credit]] |
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Infinance, a haircut is the difference between the current market value of an asset and the value ascribed to that asset for purposes of calculating regulatory capitalorloan collateral. The amount of the haircut reflects 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.
For example, United States Treasury bills, which are relatively safe and highly liquid assets, have little or no haircut, whereas more volatile or less marketable assets might have haircuts as high as 50%.
Lower haircuts allow for more leverage. Haircut plays an important role in many kinds of trades, such as repurchase agreements (referred to in debt-instrument finance as "repo" but not to be confused with the concept of repossession denoted by that term in consumer finance) and reverse repurchase agreements ("reverse repo" in debt-instrument finance).
In mass media,[1][2][3] as well as in economics texts,[4][5] especially after the financial crisis of 2007–2008,[6] the term "haircut" has been used mostly to denote a reduction of the amount that will be repaid to creditors,[3] or, in other words, a reduction in the face value of a troubled borrower's debts,[2][note 1] as in "to take a haircut": to accept or receive less than is owed.[7] In 2012, world media was reporting on the "biggest debt-restructuring deal in history",[8]: 1 which included the "very large haircut" of some "70 percent of par value" of Greek state bonds, in NPV terms.[8]: 27
The financial term "haircut" began, and continues to be used, as a reference to valuation discounts applied under the U.S. Securities and Exchange Commission's net capital rule. The net capital rule was adopted to provide safeguards for public investors by setting standards of financial responsibility to be met by broker-dealers and requires a broker-dealer to have at all times sufficient liquid assets to cover its current indebtedness. The SEC explained the role of haircuts in calculating net capital in 1967:
In computing "net capital," the rule requires deductions from "net worth" of certain specified percentages of the market values of marketable securities and future commodity contracts, long and short, in the capital and proprietary accounts of the broker or dealer, and in the "accounts of partners." (These deductions are generally referred to in the industry as "haircuts.") . . . The purpose of these deductions from "net worth," is to provide a margin of safety against losses incurred by a broker or dealer as a result of market fluctuations in the prices of such securities or future commodity contracts.[9]
"Haircut" since has been extended to a number of other financial contexts, whenever it is desirable to show that some securities (typically debt securities) are being valued for some purpose at a discount.
The European Central Bank applies a haircut to all securities offered as collateral. The size of the haircut depends on the riskiness and liquidity of the security offered as collateral.[10]
The hedge fund Long Term Capital Management (LTCM) saw spectacular losses that led to its dissolution in 1998. It had previously been able to trade with little collateral on positions that were considered safe by its lenders.[citation needed]
When used in the context of exchange traded products such as stocks, options, or futures, haircut is used interchangeably with the term margin. It is the amount of capital required by a broker to maintain the positions currently in a trading account. If haircut exceeds the account's capital, the broker can either require additional capital (e.g., margin call), or liquidate positions until the haircut no longer exceeds available capital.
During the Eurozone crisis, and particularly in the context of the Greek financial crisis, the term "haircut" acquired more specifically the meaning of state-debt holders receiving less than par.[8]: 27 It's "the market's euphemism for wiping out a large portion of the debt owed to the creditors".[11]
The haircut agreed to by Greek-state debt holders was deemed "voluntary" by the banks' chief negotiator Charles Dallara, although, in order to convince domestic bond holders, the Greek government "made it clear that holdouts would not receive a sweeter deal", while it also declared that if the haircut was not completed, the Greek state would not be able to "further service its debt".[12]
