The Relative Value Arbitrage Style

Relative value arbitrage style hedge funds attempt to capitalize on relative pricing discrepancies between related instruments in anticipation of the prices converging over time

Arbitrage is a two sided strategy involving the simultaneous purchase and sale of related securities that are mispriced compared to each other.

Convertible arbitrage style exploits pricing anomalies between convertible bonds and the underlying equity, typically long the convert and short the equity. It is designed to profit from the fixed income security and the short position in the stock. Typically employ leverage (up to 6:1) and face interest rate, credit, liquidity and corporate event risk.

Fixed income arbitrage strategies exploit pricing anomalies within and across global markets. Typically exploit investor preferences, exogenous shocks to supply or demand, or structural features of fixed income market. Include yield curve arbitrage, sovereign debt arbitrage, corporate versus Treasury spreads, muni vs. Treasury spreads, cash vs. futures and mortgage backed securities arbitrage. Typically neutralize interest rate risk and employ substantial leverage.

The equity market neutral style exploits pricing inefficiencies while exactly neutralizing exposure to market risk.Unlike the equity long/short style, market neutral funds seek to have low correlation to traditional assets. Equity long-short funds typically exhibit some beta.

The index arbitrage style exploits mispricings between the index and index derivatives.

The mortgage-backed securities arbitrage style seeks to profit from the pricing difference between a mortgage instrument with uncertain prepayment and credit quality characteristics, and a non-prepayable Treasury security.

For more information, see all articles on: Active Management, Alternative Assets, Hedge Funds

See also:
  • The Event Driven Style
  • Hedge Fund Strategies: Risk Arbitrage
  • Risk and Return in Fixed Income Arbitrage
  • The Statistics of Statistical Arbitrage
  • Limitations to Achieving Fully Efficient Markets
  • Technical Analysis Explained : The Successful Investor's Guide to Spotting Investment Trends and Turning Points

    The Intelligent Investor: The Classic Text on Value Investing

    Financial Statement Analysis: A Practitioner's Guide, 3rd Edition

    Managing Investment Portfolios: A Dynamic Process (CFA Institute Investment Series)

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