Glossary term
Haircut
A haircut is a discount applied to an asset’s market value when it is used as collateral or measured for risk.
Updated
Read time
What Is a Haircut?
A haircut is a discount applied to an asset's market value when it is used as collateral or measured for risk. If a lender values a security at less than its current market price for collateral purposes, the difference is the haircut.
The haircut creates a cushion against market moves, liquidity problems, credit risk, and valuation uncertainty. The riskier or harder-to-sell the collateral is, the larger the haircut may be.
Key Takeaways
- A haircut reduces the value assigned to collateral or a position for risk purposes.
- Higher haircuts usually reflect higher market, liquidity, or credit risk.
- Haircuts appear in margin lending, securities financing, repo markets, clearing, and risk management.
- A haircut is not the same as an investment loss, though it can affect borrowing capacity.
- The required haircut can change when volatility or risk conditions change.
Haircut Formula
Market value is the current value of the asset. The haircut percentage is the discount applied for risk. Collateral value is the amount recognized after the discount.
Simple Example
Suppose a bond portfolio has a market value of $100,000 and a lender applies a 20% haircut. The collateral value is $80,000. The lender is not saying the portfolio is worth only $80,000 in the market. The lender is saying it will recognize only $80,000 for collateral purposes.
Where Haircuts Show Up
Setting | How the haircut is used |
|---|---|
Margin accounts | Helps determine borrowing capacity and required equity |
Repo transactions | Protects the cash lender if collateral value falls |
Clearing and collateral | Adjusts accepted collateral for market and liquidity risk |
Bank risk management | Supports secured lending and capital controls |
What Changes the Haircut
Haircuts are usually set by the party accepting the collateral, not by the investor pledging it. Different lenders, brokers, clearinghouses, or counterparties may apply different discounts to similar assets because their risk models and liquidity assumptions differ.
Haircuts can vary by asset type, credit quality, maturity, volatility, concentration, market depth, and the rules of the lender or clearing organization. U.S. Treasury securities may receive a smaller haircut than thinly traded or lower-rated securities because they are generally more liquid and easier to value.
Haircuts can rise during stress. When markets become volatile or liquidity dries up, lenders may demand more cushion. That can reduce borrowing capacity even if the borrower has not sold the asset.
The Bottom Line
A haircut is a risk discount applied to collateral or securities value. It helps protect lenders and market participants from price declines, liquidity problems, and valuation uncertainty, but it can also reduce how much an investor or institution can borrow against an asset.