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Periodic Sequences Of Arbitrage: A Tale Of Four Currencies

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  • Rod Cross
  • Victor Kozyakin
  • Brian O'Callaghan
  • Alexei Pokrovskii
  • Alexey Pokrovskiy

Abstract

This paper investigates arbitrage chains involving four currencies and four foreign exchange trader-arbitrageurs. In contrast with the three-currency case, we find that arbitrage operations when four currencies are present may appear periodic in nature, and not involve smooth convergence to a "balanced" ensemble of exchange rates in which the law of one price holds. The goal of this article is to understand some interesting features of sequences of arbitrage operations, features which might well be relevant in other contexts in finance and economics.

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File URL: http://hdl.handle.net/10.1111/j.1467-999X.2011.04140.x
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Bibliographic Info

Article provided by Wiley Blackwell in its journal Metroeconomica.

Volume (Year): 63 (2012)
Issue (Month): 2 (05)
Pages: 250-294

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Handle: RePEc:bla:metroe:v:63:y:2012:i:2:p:250-294

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References

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  1. Charles Engel & Kenneth D. West, 2003. "Exchange rates and fundamentals," Proceedings, Federal Reserve Bank of San Francisco, issue Mar.
  2. Charles Engel, 1999. "Accounting for U.S. Real Exchange Rate Changes," Journal of Political Economy, University of Chicago Press, vol. 107(3), pages 507-538, June.
  3. Covrig, Vicentiu & Melvin, Michael, 2002. "Asymmetric information and price discovery in the FX market: does Tokyo know more about the yen?," Journal of Empirical Finance, Elsevier, vol. 9(3), pages 271-285, August.
  4. Andrei Shleifer & Robert W. Vishny, 1995. "The Limits of Arbitrage," NBER Working Papers 5167, National Bureau of Economic Research, Inc.
  5. Ross, Stephen A, 1978. "A Simple Approach to the Valuation of Risky Streams," The Journal of Business, University of Chicago Press, vol. 51(3), pages 453-75, July.
  6. Jonathan Haskel & Holger Wolf, 2001. "The Law of One Price - A Case Study," NBER Working Papers 8112, National Bureau of Economic Research, Inc.
  7. Alan M. Taylor, 2002. "A Century Of Purchasing-Power Parity," The Review of Economics and Statistics, MIT Press, vol. 84(1), pages 139-150, February.
  8. Osler, Carol L., 2005. "Stop-loss orders and price cascades in currency markets," Journal of International Money and Finance, Elsevier, vol. 24(2), pages 219-241, March.
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Cited by:
  1. Rod Cross & Victor Kozyakin, 2012. "Fact and Fiction in FX Arbitrage Processes," Working Papers 1211, University of Strathclyde Business School, Department of Economics.
  2. Rod Cross & Victor Kozyakin, 2012. "Double Exponential Instability of Triangular Arbitrage Systems," Papers 1204.3422, arXiv.org, revised Jun 2012.

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