Invest Safely by Understanding Arbitrage

Everyone is on the lookout for extra earnings. However, the financial crisis has affected individuals on all parts of the economic spectrum and people are understandably cautious about banking in general and investing especially. Of course, there is still money to be made, and, with the guidance of experienced finance professionals, you can feel secure more in your investments. One important concept to understand for the sake of your financial health is arbitrage. You can receive information on this subject from your regular broker or visit a firm dedicated to this single issue, such as Arbitrage Compliance Specialists.

What Is Arbitrage?

In its simplest form, arbitrage refers to earning a profit by taking advantage of a price difference in two different markets. In true arbitrage situations, the buying and selling happens simultaneously to avoid risk of prices changing before the transaction is complete. Economists and statisticians have many academic applications for this concept. In the world of finance, arbitrage often refers to the scenario of using the interest paid on tax-exempt government bonds to invest in higher-yield taxable securities.

Don’t Quit Your Day Job

If the idea of arbitrage sounds a little too good to be true, that is because it usually is. It is challenging to identify price differences and then act quickly enough to reap the benefits (in stock market settings, this is attempted only by computers, which are often still too slow). With long-term government bonds, you may be able to identify opportunities for profit, but federal income tax laws prevent you from earning arbitrage on tax-exempt bonds.

What Is Arbitrage Compliance?

If a tax-exempt bond has generated arbitrage earnings, the government requires an arbitrage rebate. This rebate represents the difference between the normal bond yields and additional arbitrage earnings. Issuers of bonds must regularly calculate whether or not they need to pay arbitrage rebates to the Internal Revenue Service, typically once every five years. This is a complicated concept to begin with, and calculations are made more complicated by the fact that interest rates are constantly changing. In order to feel confident that you are making healthy investments—and staying out of trouble with the IRS—it is a good idea to consider consulting with a financial firm like Arbitrage Compliance Specialists that can offer exclusive services.