INTRODUCTION Arbitrage Pricing Theory Definition APT. An alternative asset pricing model to the Capital Asset Pricing Model.

Unlike the Capital Asset Pricing Model, which specifies returns as a linear function of only systematic risk, Arbitrage Pricing Theory may specify returns as a linear function of more than a single factor. Fundamental Analysis This investment strategy involves evaluating a stock by examining the company, especially its operations and its financial condition. Here we look at several valuation methods, factoring in price/earnings ratio, PEG, dividend yields, book value, price/sales ratio, and return on equity. Arbitrage trading is simply the trading of securities when the opportunity exists during the trading day to take advantage of differences in value between the markets the trades are made within. Arbitrage trading takes place all day long on most days that the markets are active. Arbritrage is legally allowed. In fact arbitrage is responsible for a large part of the daily volumes on the NSE & BSE exchanges. What mainly takes place in India is called Market Arbitrage

Market Arbitrage involves purchasing and selling the same security at the same time in different markets (BSE & NSE) to take advantage of a price difference between the two separate markets. A market arbitrageur would short sell the higher priced stock and buy the lower priced one. The profit is the spread between the two assets. Arbitrage is possible when one of three conditions is met: 1. The same asset does not trade at the same price on all markets ("the law of one price"). 2. Two assets with identical cash flows do not trade at the same price.

3. An asset with a known price in the future does not today trade at its future price discounted at the risk-free interest rate (or, the asset does not have negligible costs of storage; as such, for example, this condition holds for grain but not for securities). Arbitrage is not simply the act of buying a product in one market and selling it in another for a higher price at some later time. The transactions must occur simultaneously to avoid exposure to market risk, or the risk that prices may change on one market before both transactions are complete. In practical terms, this is generally possible only with securities and financial products that can be traded electronically, and even then, when each leg of the trade is executed the prices in the market may have moved. Missing one of the legs of the trade (and subsequently having to trade it soon after at a lower price) is called 'execution risk' or more specifically 'leg risk. In the simplest example, any good sold in one market should sell for the same price in another. Traders may, for example, find that the price of wheat is lower in agricultural regions than in cities, purchase the good, and transport it to another region to sell at a higher price. This type of price arbitrage is the most common, but this simple example ignores the cost of transport, storage, risk, and other factors. "True" arbitrage requires that there be no market risk involved. Where securities are traded on more than one exchange, arbitrage occurs by simultaneously buying in one and selling on the other. Arbitrage Strategies Arbitrage is a strategy involving a simultaneous purchase and sale of identical or equivalent instruments across two or more markets in order to benefit from a discrepancy in their price relationship. It is a risk-free transaction, as the long and short legs of the transaction offset each other exactly. Thus, arbitrage engages in a strategy in order to reduce risk of loss caused by price fluctuations of securities held in the portfolio. It involves buying and selling of equal quantities of a security in two different markets, with the expectations that a future change in price will offset by an opposite change in the other.

Daily turnover in the derivatives segment is around 3.5 times the cash market volumes and is to the tune of Rs 30,000 crores. Arbitrage activity is largely concentrated in single stock futures, while index arbitrage is not very popular, although it contributes about 25-30% of the total stock futures volumes. In India, stock borrowing in the cash market is cumbersome, making the Sell Stock buy Futures strategy difficult; hence, almost the entire arbitrage activity is concentrated in Buy Stock-Sell Futures.4 Advantages of Arbitrage Strategy Capitalises opportunities of mis-pricing (cost of carry) between cash and derivatives. It is safe, as it does not carry equity market risk, as all equity positions are completely hedged. Potential returns are higher than comparable investment avenues with similar risks. Benefits of investing in an Arbitrage Fund Since the arbitrage fund is categorized as equity fund, there will be no tax on Long-Term capital gains; Dividends are also tax-free. Potential returns are higher than those in comparable investment avenues with similar risks like bank Fixed-deposits or liquid schemes. It does not carry risk equivalent to the equity market risk, as all equity positions are hedged.

NEED FOR THE STUDY The arbitrage pricing theory has a number of benefits. First, it is not as a restrictive as the CAPM in its requirement about individual portfolios. It is also less restrictive with respect to the information structure it allows. The APT is a world of arbitrageurs and vendors of information. It also allows multiple sources of risk, indeed these provide an explanation of what moves stock returns. The benefits also come with drawbacks. The APT demands that investors perceive the risk sources, and that they can reasonably estimate factor sensitivities. In fact, even professionals and academics can't agree on the identity of the risk factors, and the more betas you have to estimate, the more statistical noise you must live with. So, there is a need for the study to study about the arbitrage pricing theories of the stocks selected. OBJECTIVES OF THE STUDY 1. The objective of the study is to analyze the possibility of taking advantage of arbitrage mechanism of the blue chip scrips of core sectors of Indian economy, traded in BSE and NSE. 2. Five blue chip scrip of five core sectors are studied for evaluation. 3. The share prices of these scrips are being taken for analysis for the period of two months, April 2012 to March 2013. 4. Closing prices of each share in the two exchanges are taken for analysis. 5. The difference in the prices is analyzed for any scope of arbitration. SCOPE OF THE STUDY The study covers the five scripts selected for the study which are traded in NSE. The duration of the study includes One year i.e., April 2012 to March 2013. The study includes only arbitrage trade analysis, it doesnt include any other security and technical analysis tools.

RESEARCH METHODOLOGY Data Collection Primary Data The information collected from the company officials of different companies selected is used as primary data. There is no primary data for the study. Secondary Data Secondary data has been generated from secondary sources, i.e., from web sources and periodic investment journals, magazines, etc., the data is collected from the officials of Sharekhan Ltd. LIMITATIONS OF THE STUDY 1. This study is limited to only to some selected companies. 2. This study has been conducted purely to understand arbitrage trade analysis. 3. The study is restricted to five companies based on Arbitrage trade analysis. 4. Detailed study of the topic was not possible due to limited size of the project. 5. There was a constraint with regard to time allocation for the research study i.e. for a period of 45 days. 6. The study may not be useful for the investment decisions of the investors to invest in those companies. 7. Suggestions and conclusions are based on the limited data. 8. Situations in stock market are always subject to change.