Types of Arbitrage
The term arbitrage is principally utilized in various types of financial sectors and they are the following:
- Stock market
- Bond market
- Commodity market
- Derivatives market
- Currency market or forex market
The different types of arbitrage are the following:
Municipal bond arbitrage:Municipal bond arbitrage is also known as municipal arbitrage or municipal bond relative value arbitrage or simply muni arb. This is basically a hedge fund strategy. In case of municipal bond arbitrage, the hedge fund managers apply two approaches. The first approach is seeking relative value benefits both in case of short-term municipal bonds and long-term municipal bonds. The second approach refers to interest rate swaps between municipal bonds.
Merger arbitrage:Merger arbitrage is also known as risk arbitrage. In this type of arbitrage, the stock of a particular company, which is going to be taken over is purchased and at the same time, the stock of the company, which is going to take over the former company are short sold.
Depository receipts:A depository receipt is that form of a security, which is provided in the form of a tracking stock on a financial market located in another country. Here the profit arises from the spread between the real value and the perceived value.
Convertible bond arbitrage: A convertible bond is that type of a bond, which can be converted into a specified number of shares of a company. Convertible bond prices are dependent on three principal elements; the credit spread, the stock price, and the interest rate. The profit of convertible bond arbitrage arises from the functions of these elements.
Statistical arbitrage: In this kind of arbitrage, the arbitrageurs take the advantage of the differences in anticipated values.
Covered interest arbitrage: In this kind of arbitrage, a financial instrument or security is bought by an investor in the denomination of a foreign exchange or foreign currency, and the foreign exchange risk is hedged through the sale of a forward contract in the sales proceeds of the financial instrument again in the home currency.
Uncovered interest arbitrage: In case of uncovered interest arbitrage, funds or monies are sent to another country for availing the benefit of increased interest rates in forex agencies.
Regulatory arbitrage: In this type of arbitrage, a regulated organization avails the benefit of the deviation between the regulatory positioning and the economic or real risk.
Triangle arbitrage: It is also known as triangular arbitrage and in this approach, the benefit is taken out from a condition of disequilibrium lying between three forex markets.
Telecom arbitrage: This type of arbitrage strategy is utilized by Telecom arbitrage organizations, such as Action Telecom UK.
Political arbitrage: In this approach, political knowledge or calculations about the future are implemented for discounting and forecasting values of securities.
Fixed income arbitrage: This kind of arbitrage is primarily related to hedge funds.
Volatility arbitrage: It is also known as vol arb and is a form of statistical arbitrage. It is used with the help of buying or selling of a delta neutral option portfolio and the underlier of the portfolio.