Arbitrage Mechanics
Arbitrage is the practice of taking advantage of a state of imbalance between two (or possibly more) markets. Where this mismatch can be exploited (i.e. after transaction costs, storage costs, transport costs, dividends etc.) the arbitrageur "locks in" a risk free profit without investing any of his own money.
In general, arbitrage ensures that "the law of one price" will hold; arbitrage also equalises the prices of assets with identical cash flows, and sets the price of assets with known future cash flows.
Read more about this topic: Rational Pricing
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