Investment banks use a wide variety of strategies to earn a profit for their clients. Some of these methods are based on tried and true methods like “buy low, sell high”. As more sophisticated technology and information have allowed the market to react faster and with increasing precision, a new philosophy has been making it way into the field.
Investment banks are unlike the corner retail bank you use to deposit your paycheck and draw money to buy food. These banks have the purpose of helping their clients obtain capital and manage their client’s assets with the expectation of earning a profit. Different investment banks may specialize in one type of transactions (for example, mergers and acquisitions), or in one type of investment strategy.
Citadel is an investment bank based in Chicago that is known for its convertible bond arbitrage strategy. This investment on https://www.citadel.com/about/leadership/ is based on the simultaneous buying of convertible bonds and short selling the underlying security. In short, convertible bonds are corporate loans that are backed by and can be converted to stock in the issuing company. A short sale occurs when an investor sells a stock he does not own for delivery at a future point in time. For example, you may short a stock of a company receiving $50/share, with the delivery of that stock in thirty days. If during the thirty days the stock’s price falls to $40, the short seller would buy it at the lower price and the difference would be the spread between the $ 50 received and the $ 40 paid.
In convertible bond arbitrage, the same thing happens, but the stock price is based on the convertible price stated in the bond’s terms. By using this basis, the transaction is less subject to the whims of the market and relies on the premise that the bond’s underlying security is inefficiently priced relative to the market.
The idea of convertible bond arbitrage was developed by Ken Griffin, the founder and CEO of Citadel. Griffin was born in Daytona Beach, Florida in 1968. He started trading stocks during his freshman year at Harvard University. By the time he earned his degree in economics and graduated, Griffin had over one million dollars in assets he was managing.
After graduation, Griffin agreed to manage a fund of $1 million for Frank C. Meyer, an investor and founder of Glenwood Capital LLC. It was reported that Griffin’s strategy was so successful, Meyers earned in excess of a 70% return on his investment.
Using a little under five million in seed capital, Griffin launched Citadel in 1990. Within eight years, he had over a hundred employees and was managing a billion dollars in assets. Today, Griffin is listed as having a net worth in excess of $6.6 billion. Recently he donated $150 million to Harvard to provide student financial aid, the largest single donation up to that time.
Griffin is active in a number of other endeavors. He is an avid art collector and recently purchased a painting by Paul Czanne’s for $60 million. He has donated large sums to many Chicago area museums and loaned out a number of pieces from his collection for public display, including the Cezanne. Griffin has also partnered with the Bill and Linda Gates Foundation to support a charter high school in Chicago and education is the focus of many of his charitable activities.