Synchronization risk and delayed arbitrage

Dilip Abreu; Markus K. Brunnermeier

doi:10.1016/s0304-405x(02)00227-1

Synchronization risk and delayed arbitrage

Dilip Abreu, Markus K. Brunnermeier

Research output: Contribution to journal › Article › peer-review

207 Scopus citations

Abstract

We argue that arbitrage is limited if rational traders face uncertainty about when their peers will exploit a common arbitrage opportunity. This synchronization risk-which is distinct from noise trader risk and fundamental risk-arises in our model because arbitrageurs become sequentially aware of mispricing and they incur holding costs. We show that rational arbitrageurs "time the market"rather than correct mispricing right away. This leads to delayed arbitrage. The analysis suggests that behavioral influences on prices are resistant to arbitrage in the short and intermediate run.

Original language	English (US)
Pages (from-to)	341-360
Number of pages	20
Journal	Journal of Financial Economics
Volume	66
Issue number	2-3
DOIs	https://doi.org/10.1016/s0304-405x(02)00227-1
State	Published - 2002

All Science Journal Classification (ASJC) codes

Accounting
Finance
Economics and Econometrics
Strategy and Management

Keywords

Behavioral finance
Efficient markets hypothesis
Limits to arbitrage
Market timing
Synchronization risk

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10.1016/s0304-405x(02)00227-1

Cite this

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title = "Synchronization risk and delayed arbitrage",

abstract = "We argue that arbitrage is limited if rational traders face uncertainty about when their peers will exploit a common arbitrage opportunity. This synchronization risk-which is distinct from noise trader risk and fundamental risk-arises in our model because arbitrageurs become sequentially aware of mispricing and they incur holding costs. We show that rational arbitrageurs {"}time the market{"}rather than correct mispricing right away. This leads to delayed arbitrage. The analysis suggests that behavioral influences on prices are resistant to arbitrage in the short and intermediate run.",

keywords = "Behavioral finance, Efficient markets hypothesis, Limits to arbitrage, Market timing, Synchronization risk",

author = "Dilip Abreu and Brunnermeier, {Markus K.}",

note = "Funding Information: The authors would like to thank Ming Huang, Harrison Hong, Jos{\'e} Scheinkman, Andrei Shleifer, Marcelo Pinheiro, and an anonymous referee for their insightful comments. We acknowledge financial support from the National Science Foundation and Princeton's CEPS program. The second author is grateful to the Kellogg School of Management at Northwestern University for its hospitality during an extended visit. Copyright: Copyright 2020 Elsevier B.V., All rights reserved.",

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doi = "10.1016/s0304-405x(02)00227-1",

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AU - Abreu, Dilip

AU - Brunnermeier, Markus K.

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PY - 2002

Y1 - 2002

N2 - We argue that arbitrage is limited if rational traders face uncertainty about when their peers will exploit a common arbitrage opportunity. This synchronization risk-which is distinct from noise trader risk and fundamental risk-arises in our model because arbitrageurs become sequentially aware of mispricing and they incur holding costs. We show that rational arbitrageurs "time the market"rather than correct mispricing right away. This leads to delayed arbitrage. The analysis suggests that behavioral influences on prices are resistant to arbitrage in the short and intermediate run.

AB - We argue that arbitrage is limited if rational traders face uncertainty about when their peers will exploit a common arbitrage opportunity. This synchronization risk-which is distinct from noise trader risk and fundamental risk-arises in our model because arbitrageurs become sequentially aware of mispricing and they incur holding costs. We show that rational arbitrageurs "time the market"rather than correct mispricing right away. This leads to delayed arbitrage. The analysis suggests that behavioral influences on prices are resistant to arbitrage in the short and intermediate run.

KW - Behavioral finance

KW - Efficient markets hypothesis

KW - Limits to arbitrage

KW - Market timing

KW - Synchronization risk

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JO - Journal of Financial Economics

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Synchronization risk and delayed arbitrage

Abstract

All Science Journal Classification (ASJC) codes

Keywords

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