The general definition for plain vanilla is an idea of concept viewed in its most basic form. Often this will be the original version, or a stripped down version without bells and whistles attached. In finance, the term can refer to instruments such as bonds and derivatives (including options, futures and swaps). Because of the evolution in the ETF industry, such as short ETF‘s and leverage ETF’s, the original long only version may also be referred to as plain vanilla.
Call and put options traded on a recognized exchange come with no special terms or features. This contrasts with exotic options traded Over the Counter (OTC) which are customized to the wishes of each party.
Plain Vanilla Trading Strategy
The term can also be used to describe more general financial concepts such as trading strategies in combination with the plain vanilla description of the product. In reference to this website, we will discuss a merger arbitrage strategy. In this instance, the most basic trade is to buy and hold a simple all cash deal until completion. Although merger arbitrage often involves acquirer stock as a form of payment, this strategy particular version involves trading an additional leg. The trader must buy the target stock and short sell the acquirer stock in the correct exchange ratio. Reasonably simple, but marginally more complex than an all cash deal.
Merger Arbitrage Limited refers frequently to a plain vanilla all cash deals so as to distinguish them from more advanced payment structures involving CVR’s. However, the basic concept of this all cash deal can then be employed in an exotic manner such as an active arbitrage (non-plain vanilla) strategy.
Key Point
- It is important to distinguish between the description of the product, and the product used in the investment strategy.
