Limits to Arbitrage When Market Participation is Restricted
IEW Working Paper No. 176
15 Pages Posted: 7 Nov 2004
Date Written: December 2003
There is an extensive literature claiming that it is often difficult to make use of arbitrage opportunities in financial markets. This paper provides a new reason why existing arbitrage opportunities might not be seized. We consider a world with short-lived securities, no short-selling constraints and no transaction costs. We show that to exploit all existing arbitrage opportunities, traders should pay attention to all financial markets simultaneously. It gives a general result stating that failure to do so will leave some arbitrage opportunities unexploited with probability one.
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