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Arbitrage opportunities can be found in a few different places in the market, when risk-free profit can be made.
If a stock is purchased before the ex-dividend date, and a put is exercised when the share price falls after the dividend is distributed, it is known as dividend arbitrage. Arbitrage is when an investor finds a situation where one thing can be exchanged for another, such as the same thing on two different exchanges or similar fixed instruments which can be swapped, when no risk is taken and a profit is gained.
In a dividend arbitrage, money is made by purchasing a stock before the ex-dividend date and then exercising a put when the stock price falls after the dividend is paid. Shares purchased prior to the ex-dividend date will still receive an upcoming dividend payout. Obviously other investors should be keen to this idea and the price of the puts would reflect that.
What some banks have done, however, is to take their investor’s shares overseas, where they can benefit from different tax treatments on their gains. Taxes are often the only reason that the dividend arbitrage strategy doesn’t work domestically. The put prices across markets won’t necessarily price-in the same expected tax costs.
London’s investment banks are a market center for this overseas arbitrage, sometimes called div-arb.
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