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Crypto Arbitrage | What is It And How To Benefit From It

Fawzan Hussain 26 January, 2022 | 4 min read

Arbitrage is one of the ways to make money from cryptocurrency trading. But it isn't exclusive to cryptocurrency. Traditional financial markets, too, have leveraged arbitrage opportunities. Traders profit from price differences by buying securities from one exchange (where the price is low) and immediately selling them in another exchange (where the price is high). Arbitrage opportunities exist because many exchanges offer different cryptocurrency prices. In the crypto market, arbitrage opportunities are becoming increasingly prevalent and offering traders a means to maximize their profits. Crypto arbitrage, however, has its merits and demerits much like any other trading strategy.

We'll explore how crypto arbitrage works and how to benefit from it. Before we dive into the topic of crypto arbitrage, let's first understand its general concept.

What Is Arbitrage?

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In the most simple terms, ‘Arbitrage’ involves the simultaneous buying and selling of assets or securities on different markets and exchanges to profit off the price difference. This price discrepancy is known as a spread. In its simplest form, arbitrage is a technique in which a trader uses the non-uniformity in the prices of assets/securities across multiple markets to their benefit.

So, if you were to carry out arbitrage, you would be required to buy securities from one exchange at a lower price and instantly sell them at another exchange at a slightly higher price.

When an asset's price is low across multiple exchanges, there is likely to be an inefficiency in the market, a factor that can be exploited by traders (specifically arbitrageurs) to make money. While market inefficiencies are rare in traditional financial markets, there are more of them in the crypto world. Cryptocurrency exchanges operate differently than traditional financial markets. Due to the siloed nature of these platforms, pricing tends to be uncorrelated. Consequently, arbitraging has become one of the most popular strategies for crypto traders over the years.

What Is Crypto Arbitrage?

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By utilizing the low correlation in the price of crypto assets across multiple exchanges, crypto arbitrage works similarly to traditional arbitrage. Crypto arbitrage can be defined as the act of purchasing cryptocurrency on one exchange and then selling it at a higher price on another exchange, earning a profit.

Crypto Arbitrage is possible because there are multiple crypto exchanges out there, whose prices adjust differently depending on how liquidity affects their prices and how fast they adjust to general market fluctuations. Suppose Binance is selling Bitcoin for $45,000, while Coinbase at $45,500. Buying Bitcoin on Binance, then transferring it to Coinbase, and selling it at a higher price will help you earn profits.

Different Types Of Crypto Arbitrage

Arbitrage can be classified into several types. Crypto traders typically use the following types.

  • Spatial Arbitrage

This is the most simplistic form of arbitraging. In spatial arbitrage, crypto is purchased from one exchange and immediately sold on another for a higher price.

  • Triangular Arbitrage

Triangular arbitrage involves trading across multiple trading pairs and may be the most complicated. This trading strategy involves simultaneously trading three cryptocurrencies in the same exchange.

  • Statistical Arbitrage

Statistical Arbitrage uses quantitative data models and bots to earn profits. The automated process boosts an arbitrageur's profitability potential by enabling him to execute hundreds of trades within minutes.

  • Decentralized Arbitrage

Trading on decentralized exchanges is a strategy used by traders to execute arbitrage trades. An arbitrageur can trade an undervalued or overvalued pooled digital asset on one of these platforms.

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Crypto Arbitrage Strategy: How to Optimize It

Crypto arbitrage involves trading on a highly volatile market, so you should always keep that in mind when you engage in it. To make a profit closes, you must optimize your trades before your window of opportunity. To achieve maximum speed, use exchanges with high liquidity that can instantly match and execute orders. Low-volume exchanges, on the other hand, may match a trade after several minutes. This means that the arbitrage opportunity may have expired by then.

Crypto Arbitrage: How To Get Benefit From It

Make sure the transaction fee you are charged is not too high compared to your profit. For example, if the price difference is $50, don’t make the mistake of assuming that it is your profit. Calculate the withdrawal and deposit fees that the exchange will deduct from the transaction. Additionally, you can split up your crypto purchases and assets among different exchanges, which will reduce the impact of arbitrage charges. Benefits-2.png

Your time is of utmost importance. You might lose money if slippage occurs while you wait for your transaction to be processed. Since the cryptocurrency market is very volatile, lacking a proper strategy might pose a risk for you to sell at a higher price on a different exchange. To achieve that, you need to develop a fast and efficient arbitrage method and stick with it.

You should use secure hot wallet exchanges only since they are vulnerable to cyber attacks. Several (centralized) cryptocurrency exchanges provide users with hot wallets to keep their assets.

Perform thorough research of the exchange before you use it to protect your money from getting lost. It's usually a safe bet that if something sounds too good to be true, it probably isn't. Beware!

Conclusion

These are some things you need to keep in mind from the very beginning:

  1. Keep an eye out for new cryptocurrency listings. If a cryptocurrency is being listed for the first time on an exchange platform, chances are that it will not attract much demand.
  2. Consider these factors and questions:
    • What is the amount of money that goes into every trade?
    • What percentage of profit will be earned?
    • What are the various charges that can reduce your profits?
  3. Putting together a strategy can help you answer all of these questions and ensure that you take advantage of arbitrage opportunities.
  4. If you want to earn decent profits, ensure that you trade on multiple exchanges. Also, this eliminates the risk of putting all your eggs in one basket.
  5. Use hedging strategies. Even though hedging protects you from potential losses (sudden changes in the market) it also reduces your potential profits. The concept of hedging can be viewed as an insurance policy protecting you from imminent damage.

In the world of cryptocurrency, it is not uncommon to find the same digital currency offered at different prices across different exchanges. However, profiting from the price imbalance comes with risks. Nevertheless, if you do your due diligence, you can gain a lot from crypto arbitrage.

Note: If you are interested in investing and profiting from crypto arbitrage, do your research properly. This article is solely for informational purposes and should not be taken as investment advice.

Author's avatar
Fawzan Hussain
A Freelance SEO Consultant who also loves to blog about technologies.

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