Explain the different types of arbitrage

Question

Explain the different types of arbitrage.

Answer 1

Now we can notice that there are several types of arbitrage which we can think of:

• A static arbitrage is an arbitrage which does not require rebalancing of positions
• A dynamic arbitrage is an arbitrage which requires trading instruments in the future, usually contingent on market states
• A statistical arbitrage is not an arbitrage but a likely profit in excess of the risk-free return (perhaps even correctly adjusted for risk taken) as predicted through past statistics
• Model-independent arbitrage is an arbitrage that does not depend upon any mathematical model of financial instruments to work. For illustration, an exploitable violation of put-call parity or a violation of the relationship between forward and spot prices, or between swaps and bonds
• Model-dependent arbitrage does need a model. For illustration, options mispriced because of incorrect volatility approximation. To profit from the arbitrage you require to delta hedge, and which requires a model.