Why might an investor engage in arbitrage transactions?

Why might an investor engage in arbitrage transactions?

• A. To mitigate risks in long-term investments
• B. To take advantage of market inefficiencies for profits
• C. To hold securities for a longer period
• D. To avoid transaction fees altogether

Answer: (B)

An investor engages in arbitrage transactions primarily to take advantage of market inefficiencies for profits. Arbitrage involves simultaneously buying and selling the same asset or closely related assets in different markets to exploit price discrepancies. For example, if a stock is priced lower on one exchange compared to another, an investor can buy the stock on the cheaper exchange and sell it on the more expensive one, capturing the difference as profit. This practice capitalizes on the principle of market efficiency, whereby prices should theoretically reflect all available information; however, markets are not always perfectly efficient, creating opportunities for arbitrage. By engaging in arbitrage, investors can generate risk-free profits in a relatively short timeframe, provided they can act quickly enough to capitalize on the inefficiencies before they are corrected by the market. The other options do not align with the purpose of arbitrage. Mitigating risks or holding securities longer do not reflect the essence of arbitrage, which is about profiting from immediate price discrepancies. Additionally, arbitrage does not typically aim to avoid transaction fees, as these costs are often inherent to the rapid trading activity involved in arbitrage strategies.

An investor engages in arbitrage transactions primarily to take advantage of market inefficiencies for profits. Arbitrage involves simultaneously buying and selling the same asset or closely related assets in different markets to exploit price discrepancies. For example, if a stock is priced lower on one exchange compared to another, an investor can buy the stock on the cheaper exchange and sell it on the more expensive one, capturing the difference as profit.

This practice capitalizes on the principle of market efficiency, whereby prices should theoretically reflect all available information; however, markets are not always perfectly efficient, creating opportunities for arbitrage. By engaging in arbitrage, investors can generate risk-free profits in a relatively short timeframe, provided they can act quickly enough to capitalize on the inefficiencies before they are corrected by the market.

The other options do not align with the purpose of arbitrage. Mitigating risks or holding securities longer do not reflect the essence of arbitrage, which is about profiting from immediate price discrepancies. Additionally, arbitrage does not typically aim to avoid transaction fees, as these costs are often inherent to the rapid trading activity involved in arbitrage strategies.