Arbitrage

Arbitrage is a financial transaction that involves a simultaneous purchase and sale of a given security or asset for the purpose of attaining the optimal profitability through yield differential. The synchronized buying and selling approach of arbitrage is best implemented when it takes place on different markets and exchanges. Thus, when arbitrage is employed, the purchase may be executed at one market, while the sale is done at another. An individual who engages in arbitrage is known as arbitrageur, or merely an arb. Arbitrage investment strategy is sometimes referred to as a “risk-free profit” or “no beta profit” since an arbitrage position is completely hedged. That means that arbitrage guarantees utmost performance of both sides of the transaction without risk or loss at the time the position is assumed. Arbitrage is an advance investment tactic based on arbitrage pricing theory. Emerging in the mid-seventies, arbitrage was devised as an alternative to CAPM (Capital Asset Pricing Model), which calculated the anticipated return by taking into account the rate of a risk-free security and a risk premium.