Jeff Drobny is a managing partner and chief investment officer at Garda Capital Partners. Currently based in Minneapolis, Minnesota, Jeff Drobny steers the company’s arbitrage bond investments.
2. Jeff Drobny is a managing partner and chief investment officer at Garda
Capital Partners. Currently based in Minneapolis, Minnesota, Jeff Drobny
steers the company’s arbitrage bond investments.
Arbitrage is an investment strategy that seeks to benefit from temporary
disparities in the pricing of financial instruments. In the financial markets, the
general rule is that the market price is the right price; the law of one price.
Therefore, in an ideal market, the price of a security will be the same
everywhere.
But discrepancies do occur with asset pricing. A security’s price in New York
may not be the same as in London or a corporate bond may have a higher
coupon rate than a municipal bond with a similar maturity date.
In a liquid and actively traded market, these discrepancies are short lived,
since traders will come in to exploit them for quick gains, which causes the
disparate prices to converge.
3. In the stock market, discrepancies are avenues for
arbitrageurs to make profits. They sell higher priced assets in
one market, simultaneously buying the same lower priced
assets in a lower priced market. The difference between the
two prices represents the arbitrager's profit, which its possible
to take after the prices converge.
In the bond market, these discrepancies are avenues for
reducing risk while also reducing the effective cost of
borrowing. Here, debt securities are issued at a low interest
rate and the proceeds from the issue are invested in
treasuries until the maturity date of the higher interest bond
arrives. An effective strategy when bond yields are declining,
the arbitrage helps municipalities arbitrage the discrepancy
between lower rate bonds they issued at high coupon rates in
the past.