Bank-Intermediated Arbitrage - FEDERAL RESERVE BANK of NEW YORK

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Staff Reports

Bank-Intermediated Arbitrage

Number 858
June 2018 Revised July 2020

JEL classification: G01, G21, G23, G28

Authors: Nina Boyarchenko, Thomas M. Eisenbach, Pooja Gupta, Or Shachar, and Peter Van Tassel

We argue that post-crisis banking regulations pass through from regulated institutions to unregulated arbitrageurs. We document that, once post-crisis regulations bind post 2014, hedge funds use a larger number of prime brokers and diversify away from GSIB-affiliated prime brokers, and that the match to such prime brokers is more fragile. Tighter regulatory constraints disincentivize regulated institutions not only to engage in arbitrage activity themselves but also to provide leverage to other arbitrageurs. Indeed, we show that the maximum leverage allowed and the implied return on basis trades is considerably lower under post-crisis regulation, in spite of persistently wider spreads.

Available only in PDF

AUTHOR DISCLOSURE STATEMENT(S)

Nina Boyarchenko
The author declares that she has no relevant or material financial interests that relate to the research described in this paper.

Thomas M. Eisenbach
The author declares that he has no relevant or material financial interests that relate to the research described in this paper.

Pooja Gupta
The author declares that she has no relevant or material financial interests that relate to the research described in this paper.

Or Shachar
The author declares that she has no relevant or material financial interests that relate to the research described in this paper.

Peter Van Tassel
The author declares that he has no relevant or material financial interests that relate to the research described in this paper.