are "on special" and the manager can reinvest at a rate higher than the repo rate. For example, suppose that a manager has securities that are "on special" in the portfolio, Bond X, that lenders of funds are willing to take as collateral for two weeks charging a repo rate of say 3%. Suppose further that the manager can invest the funds in a 2- week Treasury bill (the maturity date being the same as the term of the repo) and earn 4%. Assuming that the repo is properly structured so that there is no credit risk, then the manager has locked in a spread of 100 basis points for two weeks. This is a pure arbitrage and the man- ager faces no risk. Of course, the manager is exposed to the risk that Bond X may decline in value but this the manager is exposed to this risk anyway as long as the manager intends to hold the security. The Bank of England has conducted a study examining the relation- ship between cash prices and repo rates for bonds that have traded spe- cial.10The results of the study suggest a positive correlation between changes in a bond trading expensive to the yield curve and changes in the degree to which it trades special. This result is not surprising. Traders maintain short positions in bonds which have associated funding costs only if the anticipated fall in the bonds is large enough to engender a profit. The causality could run in either direction. For example, suppose a   10See the markets section of the Bank of Englands Quarterly Bulletin in the Febru- ary 1997 and August 1997 issues.     bond is perceived as being expensive relative to the yield curve. This cir- cumstance creates a greater demand for short positions and hence a greater demand for the bonds in the repo market to cover the short posi- tions. Alternatively, suppose a bond goes on special in the repo market for whatever reason. The bond would appreciate in price in the cash market as traders close out their short positions which are now too expensive to maintain. Moreover, traders and investors would try to buy the bond out- right since it now would be relatively cheap to finance in the repo market.       PARTICIPANTS IN THE MARKET   The repo market has evolved into one of the largest sectors of the money market because it is used continuously by dealer firms (investment banks and money center banks acting as dealers) to finance positions and cover short positions. Exhibit 8.5 presents the average daily amount outstanding (in billions of dollars) for reverse repurchase/repurchase agreements by U.S.