First pricing principal: No free lunches- No arbitrage opportunities Definition: an arbitrage is an investment opportunity such that 1. It requires no positive investment today but yield positive payoff in the future 2. It yield positive payoff today without requiring positive payments in the future Absence of arbitrage establishes relations among securities prices Example: IBM Shares are traded on Nyse at 100, the current $e exchange rate is 2.0, what is the price of IBM shares traded on London stock exchange Key assumptions of arbitrage pricing More is better than less 2. No frictions, such as trading costs; short sales constraintFirst pricing principal: No free lunches— No arbitrage opportunities Definition: an arbitrage is an investment opportunity such that 1. It requires no positive investment today but yield positive payoff in the future; 2. It yield positive payoff today without requiring positive payments in the future; Absence of arbitrage establishes relations among securities prices; Example: IBM shares are traded on NYSE at 100, the current $/€ exchange rate is 2.0, what is the price of IBM shares traded on London stock exchange. Key assumptions of arbitrage pricing: 1. More is better than less; 2. No frictions, such as trading costs; short sales constraint