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16) Limits to arbitrage: A. include costs of trading B. include model risk C. both (A)...

16) Limits to arbitrage:

A. include costs of trading

B. include model risk

C. both (A) and (B) are correct

D. none of the above

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Answer #1

Answer: Option "C" both (A) and (B) are correct.

Arbitrage- It is a trading strategy in which trader simultaneously buys and sells an asset to take advantage of the difference in prices in two different markets.

Limits to arbitrage- It is a theory, used by rational investors to arbitrage away price inefficiencies. Limits to arbitrage activity checks the ability of rational investors to exploit pricing errors, done by behavioral investors.

It involves both; "Cost of trading and Model risk". Other limits are "Physical limitation of short selling and cost to short selling".

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