9780321818171_berk_ch03

Free 100 bills lying on the pavement like arbitrage

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Unformatted text preview: joke. This joke sums up the point of focusing on markets in which no arbitrage opportunities exist. Free $100 bills lying on the pavement, like arbitrage opportunities, are extremely rare for two reasons: (1) Because $100 is a large amount of money, people are especially careful not to lose it, and (2) in the rare event when someone does inadvertently drop $100, the likelihood of your finding it before someone else does is extremely small. 12/15/11 8:08 PM 82 Part 2 Interest Rates and Valuing Cash Flows Law of One Price In competitive markets, securities or portfolios with the same cash flows must have the same price. demand forces will equalize the prices. As a result, prices will not differ (at least not for long). This important property is the Law of One Price: If equivalent investment opportunities trade simultaneously in different competitive markets, then they must trade for the same price in both markets. The Law of One Price will prove to be a powerful tool later in the text when we value securities such as stocks or bon...
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