Question

Define the arbitrage? Explain the three types of bond portfolio management strategies? （Please answer briefly，ty）

Answer 1

Solution:-

In simplest words, arbitrage means riskless profit, i.e. earning profit without taking any risk. The opportunities for said riskless profit arises due to discrepancy in pricing of a security in different markets. The arbitrager makes profit by buying security in the market where it is cheaper and sells it simultaneously at the market where it is expensive, thus making profit without taking any risk.

The three primary types of bond portfolio management strategies are as follows:-

1. The first primary type of bond management strategy is 'Passive strategy'. It refers to buying a portfolio of bonds and holding them until maturity. This means that the returns of the portfolio come through interest payouts and there are no capital gains or losses due to active buying and selling of bonds based on changes in prices
2. The second strategy or 'active strategy' involves capitalising on changes in market prices of bonds due to changes in interest rates and other reasons. Thus, the strategy involves actively buying and selling bonds with the aim of making profits. It involves higher risk than the passive strategy
3. Immunization bond strategy involves traits of both active and passive strategies and includes buying bonds for a specific period of time offering a certain rate of return