What Is an Arbitrage?

What Is an Arbitrage?

By Charles Joseph | Editor, Financial Affairs
Reviewed by Corey Michael | Senior Financial Analyst

Arbitrage is a financial strategy that involves the simultaneous buying and selling of an asset in different markets to take advantage of price differences. In simpler terms, it is the act of purchasing an item at a lower cost in one place and immediately selling it at a higher price in another. This generates a profit from the price discrepancy between the two markets.

Arbitrage opportunities can be found in various financial methods, such as stock markets, foreign exchange, and commodities. However, the advancement in technology and highly competitive financial markets can make these opportunities short-lived or hard to locate.

Related Questions

1. Is Arbitrage Legal?

Yes, Arbitrage is completely legal. It’s a financial strategy used by investors and traders to generate profit from price differences in different markets. However, the use of insider information for arbitrage can be illegal.

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2. What is an Example of Arbitrage?

An example of arbitrage could be buying gold in a market where its price is low and then selling it in another market where its price is high. The difference in cost is the arbitrageur’s profit.

3. What Makes Arbitrage Possible?

Arbitrage is possible due to market inefficiencies. These inefficiencies may occur because of different market regulations, tax codes, or pricing discrepancies among different financial markets.

4. How Can I Use Arbitrage in Investments?

Investors can use arbitrage by buying securities in one market at lower prices and simultaneously selling them in another market at higher prices. However, successful arbitrage requires detailed market knowledge, research, and quick decision-making.

5. Are There Risks Associated with Arbitrage?

While arbitrage is considered a risk-free trading strategy, it can carry risks like execution risk, where prices might change before trades are complete, and liquidity risk, where there may not be enough buyers or sellers to complete the arbitrage transaction.