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Arbitrage

AHR-bih-trahzh /ˈɑːrbɪtrɑːʒ/

nounC2GMATGRE

formalbusinessfinance

The simultaneous buying and selling of securities, currency, or commodities in different markets or in derivative forms in order to take advantage of differing prices for the same asset.

A risk-free profit opportunity that exists when an asset is simultaneously priced differently in two or more markets. These opportunities are usually fleeting and quickly exploited by automated trading systems.

The story behind the word. The word 'arbitrage' comes from the Old French arbitrage, meaning 'judgment, decision,' which is derived from the Latin arbiter, meaning 'judge, umpire.' The financial sense emerged in the 18th century, referring to the calculation of exchange rates between multiple currencies to find a profitable discrepancy. The idea is that a 'judge' or 'arbiter' would resolve the differing prices, leading to a single, fair price, but before that happens, a quick trader can profit from the temporary imbalance.

Word relationships

Price discrepancy exploitation: A descriptive phrase for the action of arbitrage.
Spread trading: A broader term for trading based on price differences between related assets, but not necessarily risk-free.

Commonly confused with

Speculation: 'Arbitrage' is risk-free (or very low risk) and exploits existing price differences. 'Speculation' involves significant risk and bets on future price movements.

Word family

Arbitrager (noun): A person who engages in arbitrage.

Collocations

currency arbitrage
risk-free arbitrage
arbitrage opportunity
statistical arbitrage

Example sentences

"High-frequency traders use sophisticated algorithms to identify and execute arbitrage opportunities across global exchanges within milliseconds." Financial trading
"The existence of arbitrage opportunities suggests market inefficiencies, which are usually quickly corrected by market participants." Market efficiency
"A slight difference in exchange rates between two banks might allow for currency arbitrage, though the profit margins are often tiny." Currency markets

Memory hook

Think of an ARBITRATOR (a judge) who settles disputes. ARBITRAGE settles price differences between markets, but you profit before it's settled. ARBITRATOR settles prices.

When not to use

Do not use 'arbitrage' to describe any trading strategy that involves significant market risk or speculation. It specifically refers to exploiting risk-free price discrepancies.

Fun facts

The rise of high-frequency trading has made pure arbitrage opportunities extremely rare and short-lived, as algorithms exploit them almost instantly.

Related words

Derivatives, Speculation, Leverage

Explore more words

Derivative, Hedging, simultaneous, insider trading, broker, arbitration

Also appears in

Economic Theory & Analysis → Cryptoeconomics