Strategies · Library · Fixed income
§5.14Pairs and relative value
CDS basis arbitrage
When a bond's yield spread is higher than the price of default insurance on it, buy the bond and the insurance for a locked profit.
- Asset class
- Fixed income
- Held for
- To expiry
- Data
- Needs data ARCANE lacks
- Symphony
- Cannot be built as a symphony
The rule
- Signal
- CDS spread minus bond spread
- Entry and exit
- Buy bond plus CDS when basis is negative; hold to maturity or convergence.
- Sizing
- One bond with matching CDS notional
How it fails
- Funding cost
- Counterparty risk
- Basis can widen further
Data it needs
- inputs ARCANE does not hold
No CDS or bond-level data.
How ARCANE uses it
None yet: ARCANE does not hold the data this trades on.
Needs credit default swaps.
Filed under the pairs and statistical arbitrage card
Find two securities whose prices moved together for a year. When the gap between them opens past two standard deviations, buy the laggard and sell the leader.
A paper plan from this card holds 5 to 126 days, stops at 1.5× the expected move and uses at most 50% of your risk budget. The card
Source: Kakushadze and Serur (2018), 151 Trading Strategies, §5.14, p. 76 of the SSRN version. Described in our words. Pairs and relative value is ARCANE’s filing, not the book’s.