What is a Blind Bid?
- A blind bid is an offer, commonly made by large portfolio managers, to buy a basket of securities without knowing the composition or cost of each.
- A blind bid is risky, in that an investor, being unaware of the composition of the basket, may end up owning worthless securities.
- Institutional investors use blind bids to avoid influencing the overall market or incurring the cost of finding and executing targeted buy and sell trades.
Understanding Blind Bids
A blind bid is an offer to purchase a bundle of securities, without knowing the exact securities being purchased, and ultimately carries increased basis risk. A blind bid is risky, in that an investor is unaware of the composition of the investments being bid on. The risk is that investors will end up owning worthless securities.
Institutional investors use blind bids to avoid influencing the overall market or incurring the cost of finding and executing targeted buy and sell trades. Blind bids enable them to trade a book of securities, while knowing the number of stocks in the portfolio and their notional value. The larger the blind bid transaction, the greater the risk premium associated with the underlying securities.
Institutional investors look at the purchase of securities different than individual investors. Individual investors look at factors like liquidity, volatility, and company news to determine a price to pay, whereas institutional investors make trades in the hundreds of millions of dollars and involve entire books of securities. The practice is similar to buying an abandoned storage unit without knowing what’s inside, but having a good idea of what to expect in general.
Example of a Blind Bid
A blind bid might be submitted that reveals only general characteristics of a book of securities, such as its beta, volatility, and other attributes without specifically listing them. In this case, suppose that the portfolio has very low volatility and consists of bonds. An institutional investor may be seeking fixed income investments with low volatility and come across the blind bid. Since they’re simply looking to reduce risk in their portfolio, they may choose to purchase the book of securities without knowing the individual components. The characteristics of the portfolio may suggest that they consist of highly-rated corporate bonds and/or government securities, and so the blind bid may offer a compelling value.
The Bottom Line
A blind bid is an offer to purchase a bundle of securities without knowing the exact securities being purchased. While individual investors would never make such a deal, these transactions are commonplace among institutional investors that are more concerned with the characteristics of a portfolio than the individual components.
Blind bids carry substantial basis risk, which is the risk that the investor ends up holding underlying assets that are not comparable to the investment portfolio the investor sought exposure to initially. The potential that these instruments will not be negatively correlated heightens the risk of excess gains or losses in a hedging strategy, which would ultimately increase the risk threshold beyond the investor's risk tolerance. Basis risk can be found in certain custom derivative contract transactions that involve different currencies, volatility profiles or betas.