A zero investment portfolio is made up of securities that accumulate a net worth of zero, achieved through the use of arbitrage to minimize risk and maintain portfolio value. It offers financial security and potential for riskier investments, and is ideal for conservative investors.
Zero Investment Portfolio is a financial portfolio that is comprised wholly or primarily of securities that accumulate a net worth of zero. In some cases, economists consider portfolios to be zero investment portfolios when the resulting net worth is close to zero. In general, an investor will attempt to achieve a zero investment portfolio for reasons related to the arbitrage rules.
To understand the concept behind a zero investment portfolio, it is necessary to understand the fundamentals of arbitrage. Essentially, arbitrage is the process of buying certain amounts of securities in one market, while selling the same number of the same or similar securities in another market. In some cases, the arbitrage principle also applies to buying and selling securities of similar value in the same market. The goal of arbitrage is to minimize the overall risk of losing money, while taking advantage of opportunities to make money.
As applied to a zero investment portfolio, the use of arbitrage to protect the overall value of the financial portfolio creates a situation in which the investor is protected from changes in the investment market that can occur without prior notice. Because the goal of trading is to maintain the value of the portfolio, gains and losses generally manage to equalize the value. The result of this zero net worth will be little or no taxable interest income, a high degree of financial security for the investor, and the potential to consider riskier investments at a later date.
Often this state of a zero investment portfolio is accomplished by carefully buying and shorting equal amounts of securities. This will require the investor to closely monitor market activity so that the correct balance is maintained between portfolio acquisitions and the sale of already held items. Portfolios of this type are ideal for the conservative investor, as they can provide hands-on experience in stock picking and learn to watch market indicators without incurring great risk.
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