Arbitrage is the practice of buying and selling an item at the same time to capitalize on price discrepancies. It is a transaction that makes money by taking advantage of the price discrepancies of identical or comparable financial assets on various markets or in various forms. Market imperfections give rise to arbitrage.
How To Exploit The Arbitrage Opportunity
Stock prices are updated in real-time within a few milliseconds because of modern technologies. Finding arbitrage possibilities in the financial markets is challenging because this can run computations far faster than a human can.
As a result, companies that engage in day trading today use computers to execute algorithmic trading systems at a speed that is incomparably faster than what humans are capable of. Giving the computer a set of instructions will allow it to purchase or sell stocks.
These guidelines might concern a monetary model, timing, price, or volume. As an example, suppose you create an algorithm that instructs the computer to buy 1000 shares of Facebook whenever the price exceeds $200 and to sell if the price rises by 10% over the purchase price.
The system will read the instructions and when there is a discrepancy in the values, the system will automatically buy or sell the share. It can even take advantage of the fact that when one stock exchange has updated the price of a share but another stock exchange has shown some delay; even of a millisecond, the system will buy or sell the shares from the stock exchange.
That’s how the arbitrage opportunity is exploited. It’s all about the game of microseconds.
Market flaws give rise to arbitrage possibilities, which let investors take advantage of price variations. As a result, it genuinely applies to any market where such chances exist and are not only restricted to stock investments.
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