What does negative arbitrage indicate?

Negative arbitrage occurs when the cost of borrowing funds exceeds the yield generated by the investment of those funds. In essence, it indicates that the rates at which an entity borrows are higher than the returns they can earn by using those funds. This results in a net loss on the investment activity. Therefore, understanding negative arbitrage in terms of earning below the arbitrage yield is critical, as it reflects an unfavorable financial situation where the entity's financing costs are not being offset by sufficient investment returns. This situation can arise in certain market conditions or specific funding scenarios, leading to financial considerations in debt management strategies.