An arbitrage crash is not merely an unusually negative return day. It is a state in which the mechanisms intended to control a convert book—dynamic stock hedging, portfolio overlays, prime-broker financing, and specialist liquidity—become coupled and demand cash at the same time. The result is a gap between model cheapness and the price at which a levered investor can survive long enough to realise it.
Calamos's historical rough spots provide the mechanics: liquidity evaporates, credit spreads widen, hedges acquire basis, and highly levered books face margin calls and liquidation. The Limits of Arbitrage note supplies the Shleifer–Vishny agency theory. This lesson makes neither a claim about nor a substitute for the details of particular empirical papers in the Mitchell–Pulvino lineage; it gives the crisis anatomy supported by the sources held in this vault.
Learning objectives. By the end of this note you should be able to:
- distinguish an ordinary factor loss from a forced-deleveraging regime;
- trace the sequence from shock to dealer constraint, redemption pressure, and fire sale;
- explain why delta neutrality and a cheap model mark do not guarantee survival;
- identify which hedges can fail through liquidity or basis rather than valuation;
- draft a pre-crash and in-crash decision protocol for a convert book.
In this lesson
- The crash is a sequence, not a factor
- The amplifiers in a convert package
- What Calamos's rough spots teach
- A desk protocol before and during stress
- Crash dashboard
Before you start
The full lesson, with worked examples and exercise solutions, is for members.
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