How does bond Arbitrage work?

How does bond Arbitrage work?

An arbitrage bond is the refinancing of a municipality’s higher interest rate bond with a lower interest rate bond prior to the higher interest rate bond’s call date. The strategy of issuing arbitrage bonds is particularly effective when prevailing interest rates and bond yields in the economy are declining.

How is CDS bond basis calculated?

THE BASIS BETWEEN BONDS AND CDS While z- and CDS spreads measure very similar credit risks, we frequently see them trade at different levels in the market for the same issuer and maturity. This differential is called “basis”, and is calculated by subtracting the z-spread from the CDS spread.

What does it mean when CDS spreads tighten?

In another scenario, after one year the market now considers Risky much less likely to default, so its CDS spread has tightened from 500 to 250 basis points.

Can CDS be traded?

CDS are traded over-the-counter (OTC)—meaning they are non-standardized and not verified by an exchange—because they are complex and often bespoke. There is a lot of speculation in the CDS market, where investors can trade the obligations of the CDS if they believe they can make a profit.

How is CDS spread calculated?

It equals 1 minus the recovery rate, which is the percentage of amount owed which is recovered by a bondholder during the bankruptcy proceedings. ΔCDS is the basis point change in credit spread, N is the notional amount and D is the duration of the bond.

Why do CDS have a negative basis?

The basis is defined as negative when the CDS trades tighter than the physical bond spread for the same maturity. When the basis is negative investors could earn near riskless return by buying a physical bond and writing protection on that same bond using a CDS with equal maturity.

What is bond CDS basis?

The CDS basis is simply the difference between the spread an investor receives when owning a physical corporate bond, and the Credit Default Swap (CDS) of the same bond. The basis is defined as negative when the CDS trades tighter than the physical bond spread for the same maturity.

How do you read CDS spread?

The spread of a CDS indicates the price investors have to pay to insure against the company’s default. If the spread on a Bank of America CDS is 80 basis points, then an investor pays $80,000 a year to buy protection on $10 million worth of the company’s debt.

What are the risks of brokered CDs?

Cons of brokered CDs

• Higher risk: You could potentially lose money by selling it too soon.
• Fees: Though there are no early withdrawal penalties, fees for selling your brokered CD can eat into your interest earnings.
• Callable: Some brokered CDs can be called back before their maturity date.

Can you lose money in a brokered CD?

With a brokered CD, the only way to get money out is by selling. And brokered CDs are like bonds in that when they’re being traded, their value can change based on the interest-rate environment — so you could lose money. Plus, some brokerages tack on a trading fee when you sell CDs.