Arbitrage

This one is not written up yet

The definition above is the short version. A full explanation — how it works, a worked example and the exam traps — is still being written. In the meantime the chapter below covers it in context.

Written up from the same chapter

• BasisThe difference between the spot price and the futures price of an asset — positive when spot exceeds futures, negative when futures exceeds spot, and zero at expiry.
• Basis riskThe risk left over after hedging, because the exposure and the contract used to hedge it do not move identically — in size, in expiry date, or in what they are written on.
• Clearing corporationThe entity that steps between every buyer and seller in the derivatives segment by novation, becoming the counterparty to both sides and guaranteeing that the trade settles.
• DerivativeA contract whose value is derived from the value of something else — the underlying — rather than from anything the contract itself owns or produces.
• Diagonal spreadTwo options of the same type on the same underlying with both a different strike and a different expiry — the most complicated of the three spread families, and the only one that varies on both axes.
• Exchange traded derivativeA derivative traded on an organised exchange on standardised terms, with prices set by anonymous auction and performance guaranteed by a clearing corporation — as against a bilateral, customised OTC contract.