Question

An example of a pure arbitrage strategy is to simultaneously buy and sell the same security in two different markets at different prices.

True or False

Answer 1

Correct Answer: True

Reasoning :

In pure arbitrage strategy, investors don't put any money, takes no risk, and walk away with sure profits. In short, a pure arbitrage is a strategy where there exists no risk but sure shot profits. Such opportunities are rare in the market owing to market efficiency and the free flow of information. If exists the difference between the market pricing is very minimal. Moreover, the difference is short-lived therefore realtime pricing must be available to such arbitrators.

An arbitrator can do so by selling the same security in two different markets where there exists a pricing difference.

For instance, an XYZ company is listed on both the Toronto Stock Exchange (TSX) and the New York Stock Exchange (NYSE).

However,

Price of the stock of XYZ at the TSX = $ 39.5 (Upon converting the CAD price to USD)

Price of the stock of XYZ at the NYSE = $ 40

Since there exists a pricing difference an opportunity is created for the arbitrators. An investor can short the XYZ stock on NYSE and buy the same on TSX to have a riskless profit of $ 0.50 per share. Remember, always sell the stock on the market at a higher price and buy the same in counterpart.

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