Question

1. A British investor with a capital of £ 000.000 will try to chase an arbitrage opportunity based on the data below

            Londra                     € / £       0,8044 / 0,8065

            New York               £ / $       1,6275 / 1,6290

            Frankfurt                € / $       1,2810 / 1,2840

If the investor wants to start the arbitrage transaction by selling £ 1.000.000 in New York, what is the profit he/she will make?

Answer 1

New York

1. Sell £ 1,000,000 in New York and buy USD
2. Here exchange rate is given in the format of  £ / $ . Hence  £ is the price and $ is the product.
3. Since we buy product, bid rate is relevant.
4. We will get £ 1,000,000*1.6275 = $1,627,500

Frankfurt

1. Sell $1,627,500 and buy Euro
2. Here exchange rate is given in the format of   € / $   . Hence   € is the price and $ is the product.
3. Since we sell product, ask rate is relevant.
4. We will get $1,627,500/1.2840 = €1,267,523

Londra

1. Sell €1,267,523 and buy UKP
2. Here exchange rate is given in the format of   € / £   . Hence   € is the price and £ is the product.
3. Since we buy product, bid rate is relevant
4. We will get € 1,267,523*.8044 = £1,019,596

Arbitrage profit = £​​​​​​​1,019,596 - £ 1,000,000

= £ 19,596