Fixed-Income Arbitrage
One bond of Triple-B level risk pays 6% interest; another almost identical-risk bond pays 6.3% risk. The fixed income or bond arbitrage then is an "easy" process, wherein the arbitrageur shorts or sells the lower interest rate bond and buys the higher interest rate one, making a "riskless" gain of 0.3% per year in interest.
In shorting the lower interest or lower yielding bond, the short seller usually incurs a "borrow," or interest costs on that short; call it 0.1%. So the total arbitrage spread is something like 0.2%. And while that's a tiny number, on a billion dollars' worth of bonds for a decade or two, it adds up to nice, easy money.
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Finance: What is Arbitrage?22228 Views
finance a la shmoop what is arbitrage? not yourbritage or mybitrage but
arbitrage what it's been a while since we conjugated anything around here oh ok [Man talking about arbitrage]
so moving on arbitrage is a riskless trade you make guaranteed profits just
for being on top of things or in the right place at the right time or you're
there when opportunity comes a-knockin think about the stock exchanges in the [Men working in stock exchange]
pre-internet era around the world communication well it was relatively
slow and expensive back then especially when it came to sharing data one [Man talking into olden microphone]
relatively easy arbitrage or riskless trade opportunity that came about was
when stocks traded at one price on the various european exchanges versus the
prices it traded at on the US exchanges like shares of IBM might have been [Share price graph of IBM]
offered for sale at $165 32 cents on the london stock exchange even net of
currency conversion prices remember the Brits were on the pound system but in
the US investors were paying $165 47 cents a share
so an easy 15 cents a share was made all day long in buying the shares of IBM in
London and then just selling him back here in New York well both sides of the
trade were made at the same time it was riskless it was arbitrage and arbitrage
became a whole industry for a while until the capital markets went to work
and spreads tightened as communication got more liquid and people sprayed a [Spreads word becomes narrower]
bunch of wd-40 on information passing around the world and then that 15 cent [15 cents transfers from US to England]
spread from London to New York became more like a penny or a tenth of a penny
or at least close enough of a spread so that it was no longer worth bothering to
try and make a buck or a billion whatever those arbitrageours made in
those days