Arbitrage-risk of arbitrage

Arbitrage-risk of arbitrage

 In the past, when I studied financial theory, I simply thought that I could seek profit by looking for a plug-in plan in the market. But now it seems that General arbitrage transactions are risky, and risk-free arbitrage only seems to exist in theory, because there are transaction risks, market risks and other risks everywhere.

In reality, the most secure arbitrage may be that you give me 50 yuan in one hand, you give me 100 yuan in one hand, exchange at the same time, but also ensure that the money is true, and you do not rob me, huh, huh.

Market Risk: there is now a profession or company that relies on bond trading (off-site). He uses intermediary instead of simply buying and selling.

Arbitrage is risky ......

 

 

Arbitrage is possible when one of three conditions is met:

1. The same asset does not trade at the same price on all markets ("the law of one price ").
2. Two assets with identical cash flows do not trade at the same price.
3. An asset with a known price in the future does not today Trade at its future price discounted at the risk-free interest rate (or, the asset does not have negligible costs of storage; as such, for example, this condition holds for grain but not for securities ).

Arbitrage is not simply the act of buying a product in one market and selling it in another for a higher price at some later time. The transactions must occurSimultaneouslyTo avoid exposure to market risk, or the risk that prices may change on one market before both transactions are complete. in practical terms, this is generally only possible with securities and financial products which can be traded electronically.

In the most simple example, any good sold in one market shoshould wait for the same price in another. traders may, for example, find that the price of wheat is lower in agricultural regions than in cities, purchase the good, and transport it to another region to buy at a higher price. this type of price arbitrage is the most common, but this simple example ignores the cost of transport, storage, risk, and other factors. "True" arbitrage requires that there be no market risk involved. where securities are traded on more than one exchange, arbitrage occurs by simultaneously buying in one and selling on the other.

See rational pricing, fig.

Mathematically it is defined as follows:

And

WhereVTMeans a portfolio at time t.

 

The debacle of Long-Term Capital Management

Main article: Long-Term Capital Management

Long-Term Capital Management (LTCM) lost 4.6 billion U. s. dollars in fixed income arbitrage in September 1998. LTCM had attempted to make money on the price difference between different bonds. for example, it wowould have u. s. treasury securities and buy Italian bond futures. the concept was that because Italian bond futures had a less liquid market, in the short term Italian bond futures wowould have a higher return than U. s. bonds, but in the long term, the prices wocould converge. because the difference was small, a large amount of money had to be borrowed to make the buying and selling profitable.

The downfall in this system began on August 17,199 8, when Russia defaulted on its ruble debt and domestic dollar debt. because the markets were already nervous due to the Asian financial crisis, investors began selling Co., non-U.S. treasury debt and buying U. s. treasuries, which were considered a safe investment. as a result the price on US Treasuries began to increase and the return began decreasing because there were your buyers, and the return on other bonds began to increase because there were your sellers. this caused the difference between the prices of U. s. treasuries and other bonds to increase, rather than to decrease as LTCM was expecting. eventually this caused LTCM to fold, and their creditors had to arrange a bail-out. more controversially, officials of the Federal Reserve received in the negotiations that led to this bail-out, on the grounds that so far companies and deals were intertwined with LTCM that if LTCM actually failed, they wowould as well, causing a collapse in confidence in the economic system. thus LTCM failed as a fixed income Arbitrage Fund, although it is unclear what sort of profit was realized by the banks that handle led LTCM out.

 

ArbitrageThat is, when a financial asset has two prices, it can buy at a lower price and sell at a higher price to obtain the benefits. For example, if a stock is listed in both London and New York, the same share is the same, but it is sold in New York for $10, but it is sold in London for $12, investors can buy in New York, sell in London.

In reality, Arbitrage strategies are very complicated. Popular branches include convertible arbitrage, dividend arbitrage, and merger arbitrage. In the Orthodox financial textbooks, there is a very strict mathematical definition of arbitrage behavior, divided into the first arbitrage opportunity and the second arbitrage opportunity.