Cash-and-Carry-Arbitrage
Contents
Unveiling Cash-and-Carry Arbitrage: A Guide to Riskless Profits
Understanding Cash-and-Carry Arbitrage
Cash-and-carry arbitrage stands as a sophisticated trading strategy utilized by investors to exploit pricing disparities between the spot and futures markets. By simultaneously purchasing an asset in the spot market and selling a futures contract on the same asset, investors aim to capitalize on pricing inefficiencies and secure riskless profits.
Exploring the Basics of Cash-and-Carry Arbitrage
In essence, cash-and-carry arbitrage involves holding the asset until the expiration date of the futures contract, at which point it is delivered against the contract. The profitability of this strategy hinges on the ability to generate sufficient cash flow from the short futures position to cover acquisition costs and carrying expenses associated with holding the long asset position.
Assessing Risks in Cash-and-Carry Arbitrage
While cash-and-carry arbitrage appears to offer risk-free returns, it is not entirely devoid of risk. Factors such as increases in carrying costs or changes in margin rates can introduce elements of risk into the equation. However, the strategy mitigates market movement risk, as the only event of significance is the delivery of the asset against the futures contract at expiration.
Example Illustration of Cash-and-Carry Arbitrage
To illustrate, consider an asset trading at $100 in the spot market, with a one-month futures contract priced at $104. Assuming monthly carrying costs amount to $3, an arbitrageur would purchase the asset at $100 and simultaneously sell the one-month futures contract at $104. By holding the asset until expiration and delivering it against the contract, the trader secures a riskless profit of $1.