What does arbitrage mean in economics




















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This cookie is set by StatCounter Anaytics. The pay-off should be large enough to cover the costs involved in executing the trades i. Description: Suppose an asset, gold, is quoted at Rs 27, per 10 gm in the Delhi bullion market and at Rs 27, in the Mumbai bullion market. A trader may buy 10 gm of gold in Delhi and sell it in Mumbai, making a profit of Rs Rs 27, - Rs 27, However, this trade will be profitable only if the cost of transactions is less than Rs per 10 gm of gold.

In the above example, assuming that the total transaction cost, of executing the trades and physical delivery of gold, is Rs for 10gm, then the net profit for the trader would reduce to Rs If the price difference between the two bullion markets reduces to Rs or less than that per 10gm of gold, then the arbitrage opportunity between the two markets shall cease to exist, as the transaction costs shall be equal to, or more than, the price difference between the two markets.

In real life, arbitrage opportunities if any exist only for brief periods since most of the arbitrage trading has been taken over by algorithm-based trading in matured markets.

These algorithms are quick to spot and capture arbitrage opportunity, making it easy for human traders to keep track. Watch the video here:. Related Definitions. Browse Companies:. Mail this Definition. My Saved Definitions Sign in Sign up. Find this comment offensive? This will alert our moderators to take action Name Reason for reporting: Foul language Slanderous Inciting hatred against a certain community Others.

Your Reason has been Reported to the admin. Put-call parity arbitrage II. Put-call parity clarification. Option expiration and price. Next lesson. Current timeTotal duration Google Classroom Facebook Twitter. Video transcript The word arbitrage sounds very fancy, but it's actually a very simple idea. It's really just taking advantage of differences in price on essentially the same thing to make risk-free profit. So let's just think about a little bit. Let's say in one part of town there's some type of a market.

In its most basic form, merger arbitrage involves an investor purchasing shares of the target company at its discounted price, then profiting once the deal goes through. Yet, there are other forms of merger arbitrage. Convertible arbitrage is a form of arbitrage related to convertible bonds, also called convertible notes or convertible debt.

The primary difference between a convertible bond and a traditional bond is that, with a convertible bond, the bondholder has the option to convert it into shares of the underlying company at a later date, often at a discounted rate. Companies issue convertible bonds because doing so allows them to offer lower interest payments. This is typically achieved by taking simultaneous positions—long and short—in the convertible note and underlying shares of the company.

Which positions the investor takes and the ratio of buys and sells depends on whether the investor believes the bond to be fairly priced. In cases where the bond is considered to be cheap, they usually take a short position on the stock and a long position on the bond. On the other hand, if the investor believes the bond to be overpriced, or rich, they might take a long position on the stock and a short position on the bond. Arbitrage, in its many forms, can be an effective tool for investors seeking low-risk yields.



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