Today’s word comes from First Reader.
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Part of Speech
- The nearly simultaneous purchase and sale of securities or foreign exchange in different markets in order to profit from price discrepancies.
- The purchase of the stock of a takeover target especially with a view to selling it profitably to the raider.
- Finance. The simultaneous purchase and sale of the same securities, commodities, or foreign exchange in different markets to profit from unequal prices.
First used in 1875, borrowed from French, literally, “decision-making, judgment,” going back to Old French, “judgment pronounced by an arbiter,” from arbitrer “to pass judgment” (borrowed from Latin arbitrārī “to consider, judge, decide,” verbal derivative of arbitr-, arbiter “onlooker, ARBITER”) + –age -AGE
Financial Definition of arbitrage
What It Is
Arbitrage is the process of exploiting differences in the price of an asset by simultaneously buying and selling it. In the process the arbitrageur pockets a risk-free return. Differences in prices usually occur because of imperfect dissemination of information.
How It Works
For example, if Company XYZ’s stock trades at $5.00 per share on the New York Stock Exchange (NYSE) and the equivalent of $5.05 on the London Stock Exchange (LSE), an arbitrageur would purchase the stock for $5 on the NYSE and sell it on the LSE for $5.05 — pocketing the difference of $0.05 per share.
Theoretically, the prices on both exchanges should be the same at all times, but arbitrage opportunities arise when they’re not. In theory, arbitrage is a riskless activity because traders are simply buying and selling the same amount of the same asset at the same time. For this reason, arbitrage is often referred to as “riskless profit.”
Arbitrageurs also try to exploit price differences created by mergers. In some cases, they purchase the shares of companies that are the targets of purchase offers, hoping to pocket the difference between the trading price and the eventual cash payment resulting from the merger. Even though this type of strategy is referred to as “arbitrage,” it’s a bit of a misnomer because there’s always a risk that a merger will not actually happen. Because it’s not risk-free, merger arbitrage is not “arbitrage” in its truest sense.~https://www.merriam-webster.com/dictionary/arbitrage
Usage and Examples
Here are a couple of examples:
- The day traders practiced the art of arbitrage with skill, buying and selling throughout the day with barely any break in activity.
- The broker decided to use arbitrage techniques to buy foreign stocks at a discount and quickly unload them in the US.