What does stock index arbitrage involve?

Stock index arbitrage involves the simultaneous trading of stock index futures and the underlying stock portfolios. This strategy exploits discrepancies between the futures prices of a stock index and the actual prices of the stocks that comprise that index. When the futures price is mispriced in relation to the value of the underlying stocks, arbitrageurs can buy or sell the futures while simultaneously taking an opposite position in the underlying stocks to lock in a risk-free profit.

Essentially, this trading strategy ensures that the price movements between the stock index and the corresponding futures contract are in alignment, thereby capitalizing on any pricing inefficiencies. By executing these trades at the same time, traders aim to benefit from the anticipated convergence of prices, thus minimizing exposure to market risks that can occur with delayed transactions.

The other choices reflect different trading strategies or activities that do not capture the essence of stock index arbitrage specifically. For example, trading commodities against stock indices or focusing solely on day trading stock indices does not involve the simultaneous transaction across both futures and the underlying stocks, which is central to stock index arbitrage tactics.