Crypto Arbitrage: The Complete Guide

Overview

Crypto arbitrage thrives within the dynamic blockchain ecosystem. While not exclusive to cryptocurrencies, its vast opportunities make it an appealing option. Cryptocurrencies have diverse prices across exchanges, each assigning a unique value. This discrepancy can arise from various factors, and traders can exploit these price differences. 

With billions of dollars worth of daily cryptocurrency exchanges in millions of trades, numerous crypto exchanges offer distinct prices for the same assets. Enter the world of cryptocurrency arbitrage — a chance for savvy and risk-tolerant traders to leverage these exchanges against one another. This guide delves into the mechanics of crypto arbitrage, providing insights for a well-informed approach.

What Is Crypto Arbitrage?

Arbitrage is a concept deeply rooted in financial markets. It has long been used in stocks, bonds, and foreign exchanges. It involves capitalising on price inefficiencies within these markets. Crypto arbitrage trading, on the other hand, applies this principle to the realm of cryptocurrencies. It entails purchasing digital assets at a lower price on one exchange and selling them on another at a higher price. 

The key distinction lies in the price difference between different cryptocurrencies across various exchanges rather than within the same cryptocurrency across different exchanges. By leveraging these divergences, traders can profit by strategically buying on one exchange and selling on another.

Read More: What Is Ergo (ERG) Crypto? 7 Things for Potential Ergonauts to Know

How Crypto Arbitrage Works

Arbitrage has been prevalent for centuries, involving buying and selling assets in different markets simultaneously to leverage price variations.

It’s important to know that crypto exchanges can have different asset prices and use different methods to determine them. Crypto prices fluctuate, and the market is always active, resulting in minor discrepancies in asset prices. Arbitrage traders seek to profit from these differences.

Crypto arbitrage utilises software that establishes instant connectivity across major cryptocurrency exchanges. This enables traders to seize opportunities by buying at a lower price on one exchange and swiftly selling at a higher price on another, maximising their potential gains.

Crypto arbitrage also occurs when a popular exchange lists a cryptocurrency. Geography also matters as selling can be easier or harder at different times. To succeed, you must watch for opportunities and act quickly. Additionally, confirming a major coin transaction typically takes 15-20 minutes. You risk generating less arbitrage profit if the market price drops within this timeframe. 

Types of Crypto Arbitrage

1. Triangular Arbitrage

Triangular arbitrage exploits pricing inefficiencies between three currencies when exchange rates don’t align. These discrepancies can occur across exchanges or within the same platform. Spotting triangular arbitrage opportunities can be difficult without trading tools, but they can be profitable for arbitrage traders.

2. Decentralised Arbitrage

This strategy involves exploring price differences between centralised exchanges, Automated Market Makers (AMMs), and different Decentralised Exchanges (DEXs).

Decentralised arbitrage traders actively search for pricing disparities across DEXs. One advantage is the lower fees compared to centralised exchanges. Another is retaining complete control over private keys throughout the process. This is due to decentralised exchanges not supporting custodial crypto wallets.

3. Spatial Arbitrage

Spatial arbitrage trading profits from price differences based on the geographical location of exchanges. Demand disparity drives spatial arbitrage. For example, if your country has high Bitcoin demand, you can buy from an exchange in a country with lower demand and sell on local exchanges.

4. Statistical Arbitrage

Statistical arbitrage employs mathematical models to trade assets and profit from price differences. Arbitrage bots are used in this strategy, capable of trading multiple assets simultaneously. 

Bots use mathematical models to predict trade outcomes and execute accordingly. The process is automated with bots, requiring minimal manual intervention, and reduces the risk of errors.

How to Perform Crypto Arbitrage

Crypto arbitrage follows a systematic approach that can be broken down into several steps:

Step 1: Gather order book data from each exchange for the assets you wish to assess for arbitrage.

Step 2: Examine the bid and ask prices on each exchange for the asset you’re evaluating. Look for areas of overlap between the prices.

Step 3: Sell the asset on the exchange where the price is higher and simultaneously buy it on the exchange where the price is lower.

Step 4: Repeat the step 3 approach until you gradually exhaust the order book.

Step 5: Once the opportunity has been exhausted or is no longer profitable, cease the buying and selling of the asset.

Why Is Crypto Arbitrage So Popular?

Crypto arbitrage is popular due to multiple exchanges where cryptocurrencies and trading pairs are traded. The prices of cryptocurrencies can vary significantly across these exchanges, creating opportunities for investors to buy low or sell high. This arbitrage opportunity is a crucial factor driving the popularity of crypto arbitrage trading among investors seeking to profit from their digital currency investments.

Pros and Cons of Crypto Arbitrage

Pros

• You can earn profits even while you sleep, as constant monitoring is not required.
• This strategy can be executed while you’re at work or on vacation, as long as you have internet access.
• Crypto arbitrage transactions can be completed quickly, sometimes within an hour or less. It offers faster results than traditional trading, where you buy and hold cryptocurrency to sell at a later date.
• With over 600 cryptocurrency exchanges today, this abundance of crypto exchanges provides various arbitrage opportunities.

Cons

• Crypto arbitrage trading involves risks; Not everyone may succeed in this venture.
• Exchanges charge fees for deposits, withdrawals, and trades, which must be factored in when calculating profits.
• Large trades may be subject to withdrawal limits imposed by exchanges, impacting immediate access to crypto balances.
• Increased competition among traders seeking arbitrage can affect trading volumes and reduce arbitrage opportunities.

Conclusion

Crypto arbitrage offers traders the opportunity to profit from price differences across exchanges. While it provides the advantage of earning profits while not actively monitoring the market, it also carries certain risks. Before attempting crypto arbitrage, do thorough research and stay informed about the crypto market. Caution and strategic execution are necessary for success in this venture.

Frequently Asked Questions

What Is the Best Way to Do Crypto Arbitrage?

One popular method is spatial arbitrage, which entails simultaneous buying and selling on two separate exchanges. However, spatial arbitrage can come with challenges, such as potential costs and delays in the execution process.

Is Crypto Arbitrage Profitable?

Each approach has different trading methods and requires specific expertise and technical skills. However, all three types of arbitrage offer the potential for risk-free profits in the digital currency market.

Is Crypto Arbitrage Still Feasible?

You can still engage in crypto arbitrage trading today, but it has become more complex. This is due to the larger number of exchanges and increased market liquidity. As a result, finding profitable price differences to exploit has become more complex.