FX fwd arbitrage – 4 b/a spreads to OVERCOME

Look at the parity between fwd/spot FX rates and the 2 interest rates (in the 2 currencies). Basic concept looks simple, but in the real market each rate is quoted in bid and ask. 8 individual numbers involved.

We pick 4 of them to evaluate ONE arbitrage strategy (fwd rate too high) and the other 4 to evaluate another arbitrate opportunity (fwd rate too low)

Across asset classes, most pricing theories assume 0 transaction cost and 0 bid/ask spread. In this case, the bid/ask spread is often the showstopper for the arbitrageur. Similar challenge exists for many option arbitrageurs.

I think [[complete guide to capital markets]] has one page illustrating this arbitrage.

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