Fixed Income Relative Value
Fixed income relative value hedge funds trade instruments linked to interest rates including government bonds, interest rate swaps and interest rate derivatives. Classic fixed income relative value seeks to profit by identifying arbitrage opportunities between similar fixed income instruments, for example, on-the-run versus off-the-run government bonds.
Because the arbitrage opportunities are often quite small relative to the notional of the instruments traded, fixed income relative value hedge funds are often highly leveraged. Even with significant leverage, the short-term volatility of fixed income relative value funds can be quite low. The challenge for fixed income relative value funds is often in identifying tail risks, and in measuring liquidity risk.