arbitrage bond
A bond issued by a municipality to take advantage of a disparity in interest rates between two different debt instruments. For example, a municipality issues an arbitrage bond at a lower interest rate and for a shorter term than one of its own existing debt securities. It then might use the assets raised by the arbitrage issue to buy Treasury securities that are paying a higher interest rate than its own issue. Prior to maturity of its own higher-rate issue, the municipality will sell the Treasury securities and pay off the debt on the arbitrage bond, profiting from the difference.
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