arbitrageur hands over the underlying, and receives the agreed price. He then repays the lender the borrowed amount plus interest. The difference between the agreed price and the amount repaid (i.e. owed) is the arbitrage profit. (b) where the discounted future price is lower than today's price: The arbitrageur agrees to pay for the asset on the future date (i.e. buys forward) and simultaneously sells (short) the underlying today; he invests (or banks) the proceeds. On the delivery date, he cashes in the matured investment, which has appreciated at the risk free rate. He then takes delivery of the underlying and pays the agreed price using the matured investment. The difference between the maturity value and the agreed price is the arbitrage profit. Point (b) is only possible for those holding the asset but not needing it until the future date. There may be few such parties if short-term demand exceeds supply, leading to backwardation. Fixed income securities See also Fixed income arbitrage; Bond credit rating. Rational pricing is one approach used in pricing fixed rate bonds. Here, each cash flow on the bond can be matched by trading in either (a) some multiple of a zero-coupon bond, ZCB, corresponding to each coupon date, and of equivalent credit worthiness (if possible, from the same issuer as the bond being valued) with the corresponding maturity, or (b) in a strip corresponding to each coupon, and a ZCB for the return of principle on maturity. Then, given that the cash flows can be replicated, the price of the bond must today equal the sum of each of its cash flows discounted at the same rate as each ZCB (per #Assets with identical cash flows). Were this not the case, arbitrage would be possible and would bring the price back into line with the price based on ZCBs. The mechanics are as follows. Where the price of the bond is misaligned with the present value of the ZCBs, the arbitrageur could: finance her purchase of whichever of the bond or the sum of the ZCBs was cheaper by short selling the other and meeting her cash flow commitments using the coupons or maturing zeroes as appropriate then, her profit would be the difference between the two values. The pricing formula is then , where each cash flow is discounted at the rate that matches the coupon date. Often, the formula is expressed as