Pure Arbitrage vs Risk Arbitrage: Understanding the Key Differences

In the intricate world of finance, the distinction between pure arbitrage and risk arbitrage is vital for investors seeking to capitalize on price discrepancies. Pure arbitrage is the practice of exploiting price differentials of the same asset across different markets, aiming for a risk-free profit. This process typically involves simultaneous buying and selling of the asset, ensuring that any potential profit is locked in before market prices adjust. In contrast, risk arbitrage, also known as merger arbitrage, involves taking on risk in anticipation of future price movements resulting from corporate events such as mergers or acquisitions. Here, the investor purchases shares of a target company while short-selling shares of the acquiring company, betting that the spread between the prices will narrow as the deal progresses. This article delves deep into both strategies, exploring their mechanisms, advantages, disadvantages, and real-world examples to provide a comprehensive understanding of these arbitrage methods.