Arbitrage

Philip H. Dybvig; Stephen A. Ross

doi:10.1057/978-1-349-95189-5_449

Arbitrage

Philip H. Dybvig
, Stephen A. Ross

Research output: Chapter in Book/Report/Conference proceeding › Chapter › peer-review

Abstract

The absence of arbitrage is the unifying concept for much of finance. Absence of arbitrage is more general than equilibrium because it does not require all agents to be rational. The Fundamental Theorem of Asset Pricing asserts the equivalence of absence of arbitrage, existence of a positive linear pricing rule, and existence of some hypothetical agent who prefers more to less and has an optimum. Equivalent representations of the pricing rule are the martingale measure (risk-neutral pricing), and a positive state price density. Applications of no arbitrage and these representations include Modigliani-Miller theory, option pricing, investments, and forward exchange parity.

Original language	English
Title of host publication	The New Palgrave Dictionary of Economics, Third Edition
Publisher	Palgrave Macmillan
Pages	377-388
Number of pages	12
ISBN (Electronic)	9781349951895
ISBN (Print)	9781349951888
DOIs	https://doi.org/10.1057/978-1-349-95189-5_449
State	Published - Jan 1 2018

Keywords

Arbitrage
Arbitrage pricing theory
Arrow-Debreu model
Capital asset pricing model
Capital budgeting
Capital structure
Dividend discount model
Dividend policy
Dominance
Duality
Efficient allocation
Efficient market hypothesis
Equivalent martingale measure
Farkas’ Lemma
Forward exchange, parity theory of
Fundamental theorem of asset pricing
Hahn-Banach th
Hyperplanes
Interest rates
Law of one price
Linear pricing rules
Linear programming
Markov processes
Martingales
Modigliani-Miller th
No arbitrage
Noise
Option
Option pricing
Pricing rule representation th
Purchasing power parity
Risk premium
Risk-neutral probabilities
Separation theorems
State price density
State spaces
Trade costs
von Neumann and Morgenstern

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10.1057/978-1-349-95189-5_449

Cite this

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abstract = "The absence of arbitrage is the unifying concept for much of finance. Absence of arbitrage is more general than equilibrium because it does not require all agents to be rational. The Fundamental Theorem of Asset Pricing asserts the equivalence of absence of arbitrage, existence of a positive linear pricing rule, and existence of some hypothetical agent who prefers more to less and has an optimum. Equivalent representations of the pricing rule are the martingale measure (risk-neutral pricing), and a positive state price density. Applications of no arbitrage and these representations include Modigliani-Miller theory, option pricing, investments, and forward exchange parity.",

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KW - Capital asset pricing model

KW - Capital budgeting

KW - Capital structure

KW - Dividend discount model

KW - Dividend policy

KW - Dominance

KW - Duality

KW - Efficient allocation

KW - Efficient market hypothesis

KW - Equivalent martingale measure

KW - Farkas’ Lemma

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KW - Option pricing

KW - Pricing rule representation th

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KW - Risk premium

KW - Risk-neutral probabilities

KW - Separation theorems

KW - State price density

KW - State spaces

KW - Trade costs

KW - von Neumann and Morgenstern

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Arbitrage

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Keywords

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