Deliberate Limits to Arbitrage

21 Pages Posted: 16 Mar 2012

See all articles by Igor Makarov

Igor Makarov

London School of Economics & Political Science (LSE)

Guillaume Plantin

University of Toulouse 1 - Toulouse School of Economics (TSE)

Date Written: February 23, 2012

Abstract

This paper develops a model in which arbitrageurs are collectively unconstrained. Yet, they may prefer to incur individual limits of arbitrage rather than use their combined resources to capture every available arbitrage opportunity. Such deliberate limits to arbitrage arise because the communication of an arbitrage position reveals the idea underlying it. The absence of property rights on arbitrage ideas implies that this creates future competition. We let arbitrage opportunities differ along the ease with which they can be identified and along the speed at which they mature. We find that such deliberate limits to arbitrage arise for arbitrage opportunities that are neither too slow nor too quick to mature. The range of maturities for which arbitrage is limited increases when arbitrage opportunities are easier to find. Our results thus restrict the set of arbitrage trades that are likely to exist in the market.

Keywords: limits of arbitrage

JEL Classification: G10

Suggested Citation

Makarov, Igor and Plantin, Guillaume, Deliberate Limits to Arbitrage (February 23, 2012). AFA 2013 San Diego Meetings Paper. Available at SSRN: https://ssrn.com/abstract=2023450 or http://dx.doi.org/10.2139/ssrn.2023450

Igor Makarov (Contact Author)

London School of Economics & Political Science (LSE) ( email )

Houghton Street
London, WC2A 2AE
United Kingdom

Guillaume Plantin

University of Toulouse 1 - Toulouse School of Economics (TSE) ( email )

Place Anatole-France
Toulouse Cedex, F-31042
France

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