Cryptocurrency arbitrage is about leveraging prices to your advantage. Crypto trading has been around for quite a few years now; however, the prices of cryptocurrencies vary from one exchange to another. Each crypto exchange has its value for specific cryptocurrencies, and this may be due to multiple reasons. Crypto arbitrage helps traders take advantage of the price difference by buying cryptocurrency from one exchange and selling it on another immediately.
Cryptocurrency trading is quite difficult, and there are several risks involved, mainly due to the volatility of the crypto market. You never know when the prices may soar or dropdown. To become a successful crypto trader, you need to analyse patterns in the price charts to predict future movement.
Crypto arbitrage is one trading technique that helps traders earn profits from the crypto market inefficiency. However, these trades have to be performed instantaneously to earn any amount of profit, else the market may fluctuate, and you may end up with a loss. In this article, we talk about cryptocurrency arbitrage, how it works, different approaches, and much more. However, do not limit yourself to this guide as doing your own research is important before indulging in crypto trading.
Always be aware of the risks and pitfalls of crypto trading. Until you grasp various trading concepts and techniques, you may not be able to earn a huge profit margin.
What is Cryptocurrency Arbitrage?
Arbitrage is a familiar concept that has been around since stock, bond, and foreign markets emerged. It simply refers to buying and selling the same asset on different markets to make a profit from the difference between the listing price on both these exchanges.
For example, if Bitcoin is available at a higher price on Indodax than on Zipmex, you can buy BTC on Zipmex and sell it on Indodax to pocket the difference.
Opportunities may arise due to price differences caused by a rapid surge in trading volumes or inefficiencies within the exchange. Smaller platforms tend to follow the prices set by larger exchanges, but this doesn’t happen instantly. This is where arbitrage happens.
Bigger exchanges can offer better prices, whereas smaller exchanges have to try and compete with them to offer something similar. But these prices depend on supply and demand so that smaller exchanges may actually be more stable.
Leveraging is possible as long as the crypto markets are not perfect. There are mainly two types of crypto arbitrage:
- Arbitrage between exchanges (also known as Triangular arbitrage)
- Arbitrage within the exchange
We are already quite familiar with arbitrage between the two exchanges. For an opportunity to happen within the exchange, you need to purchase two different cryptocurrencies from the same exchange and sell it when there’s a price difference. If any trader is looking for crypto arbitrage, then they must take into account the risks and rewards associated with it.
The normal arbitrage in finance is spatial arbitrage (or triangular arbitrage for three exchanges), where it is about taking advantage of differences in the listing prices on different exchanges. There are two other methods – cross-border arbitrage and statistical arbitrage.
Cross-border arbitrage is arbitrage in two exchanges that are situated in different countries. You can also have cross-border arbitrage in the form of triangular arbitrage which consists of three exchanges offering differences in pricing. Statistical arbitrage is quite difficult to pull off as it involves mathematical modelling. It is quite risky as in a crypto market; things can change within a short period.
How Does Cryptocurrency Arbitrage Work?
As we discussed in the previous section, arbitrage can be caused by various market factors. But, one of the major factors is the difference in trading volumes between the exchanges.
In larger exchanges, the trading volumes of cryptocurrencies may be quite high, which leads to lower prices. Whereas in other exchanges where the trading volume is minimal, the price of the crypto coins might be quite high.
There have been instances where people bought cryptocurrencies from smaller exchanges and sold it on larger ones for arbitrage. One such case was observed in 2017, where Bitcoin on a local exchange was much higher than quoted on international exchanges.
Crypto arbitrage also occurs when a crypto coin is listed on popular exchanges such as Zipmex. Even geography plays an important role in arbitrage as it may be easier or harder to sell during different times of the day. To be successful at this, you need to look out for an opportunity. Once you notice an opportunity, you need to execute it quickly. You can document in your order book how much you will make by buying and selling on different platforms, and then make a decision accordingly.
It takes around 15-20 minutes for major coins to confirm the transaction. If the market price drops within this time frame, then you may run a risk of generating less arbitrage.
Simultaneous arbitrage is rare in the crypto world as the market is quite volatile. You may even have to wait for a couple of days to execute the perfect arbitrage. This is the case of single-side trade, where you buy the cryptocurrency, and you cannot sell it for arbitrage.
Finally, when you execute the crypto arbitrage, ensure that you don’t mess things up. Make sure to double-check your analysis of the buy and sell listings on the exchanges. Also, have a closer look at the trading volumes.
You may be able to find programs that do the arbitrage work for you, but they might not be quite effective as there are plenty of risks to consider, for instance, security. To be able to perform crypto arbitrage, you also need to open up accounts in various exchanges. Doing so might make yourself vulnerable to a security risk as some platforms may get hacked, or the exchange may just steal your coins if they are not reputable.
Is Cryptocurrency Arbitrage Profitable?
At the time of writing, there is a $6 difference in the price of 1 BTC on two popular cryptocurrency exchanges. You can earn profits from these differences, such as 0.2 – 2.5% ($10 to $50) every day. If you focus on around ten such spreads every day, you can make at least a thousand dollars per week.
To perform crypto arbitrage, you need the right set of tools and knowledge. Without this, it is close to impossible to take advantage of the opportunity. There may be situations when the spread may be larger, which could provide a huge profit. We only considered the case of spatial arbitrage in the above example. This, coupled along with other crypto arbitrage strategies, could earn a lot more profit.
If you are a day crypto trader, and there is not much market movement, you can always earn some profit from arbitrage. If you are persistent and quick to take action on profitable opportunities, you can earn a decent profit from arbitrage. The most common type of arbitrage that people perform is spatial arbitrage, where they purchase cryptocurrency from one exchange and sell to another. But this can be quite ineffective at times.
By the time you purchase cryptocurrency and have it validated by the miners, the market may move for or against you. When you sell it at another exchange, the price may vary, so you may not receive the profit you were hoping for. Another factor that people don’t look for is the extra fees, which decrease the profit by a decent margin. Suppose you earn a gain of 3% or $30 on the crypto and while selling it at another exchange, you need to pay 1% trading fees. The profit is cut down to 2% or 20$.
Arbitrage also increases the price of the cryptocurrency at the exchange you buy from, and an adverse effect is caused at the exchange where you sell the crypto. This causes the price to move closer, making it more difficult for the next trader to earn profit via arbitrage.
In the initial crypto days, the trades were manually done. But with advancements in technology, computerised trading took over. The price fluctuations are now monitored 24/7, and trades are executed almost instantaneously. This eliminated price errors and thus lowered the chances of arbitrage opportunities.
To be able to recognise differences across various exchanges, you need to access multiple listings at once. This can be much easier if you use arbitrage tools and software. Since the cryptocurrency exchange operates 24/7/365, there is nothing to stop it. Using a crypto arbitrage trading bot, you can buy and sell cryptocurrencies quickly from multiple exchanges (for example automate buy BTC). All you need to do is program the bot to work perfectly for the arbitrage.
Is Cryptocurrency Arbitrage Legal?
Yes, cryptocurrency arbitrage is legal. Each exchange offers its own rate for a specific cryptocurrency. This price is approximately the same across all exchanges, but sometimes there is a deviation of about 5-10% or rarely as high as 20%.
Cryptocurrencies are decentralised, highly volatile, and the market is still in the initial stages of development. Due to this, arbitrage opportunities arise and are more frequent compared to other markets.
Crypto arbitrage rises due to market inefficiency and not due to the actions of an individual or group of individuals. However, as more traders engage in arbitrage, there are bound to be lesser opportunities for others as such traders immediately nullify the price difference. As you already know, arbitrage helps the market to stabilise and increases the trade volumes on various exchanges.
Bitcoin Arbitrage Example
The best way to explain bitcoin arbitrage is to look at an example. Let us consider two exchanges that both list Bitcoin. Let’s call them Exchange Y and Exchange Z.
Exchange Y is a major exchange with a high trading volume where the price of BTC is $10,000. Exchange Z is a smaller exchange with a low trading volume where the price of BTC is $10,015.
Suppose if the US Internal Revenue Service announces that BTS deposits will not be subjected to any tax. This would cause an influx of trades everywhere particularly in the US. Now here, the price difference due to the difference in trade volumes is around $15.
More users will purchase BTC from exchange Y, due to which the price will increase to $11,140, whereas the price of BTC on exchange Z will only be $11,000. This is where arbitrage comes in. You have the option of purchasing BTC from Exchange Z at $11,000 and then selling it on Exchange Y for $11,140, acquiring a profit of $140 per BTC.
In this example, we do not consider the transaction and fees, transaction procession times, and potential price changes between the transactions.
Pros Of Crypto Arbitrage
You can perform crypto arbitrage as early as the transactions are completed, which may be within an hour or lesser. This is much quicker than traditional trading where you buy and hold cryptocurrency to sell at a later date.
Wide Range of Opportunities
There are numerous crypto exchanges in the market these days. With so many, there’s a wide range of arbitrage opportunities. According to Coindesk, there are more than 391 cryptocurrency exchanges in the world today.
The Crypto Market is Still Developing
Cryptocurrency is yet to be widely accepted by the public, and hence the crypto market is still in the early stages of development. Due to this, there is quite a bit of irregularity, disjointing, and lack of information transfer between exchanges. There are also a fewer number of crypto traders and less competition in the market, which leads to potential price differentials.
Cryptocurrencies are Still Volatile
Although the first cryptocurrency, Bitcoin, was launched way back in 2009 by Satoshi Nakamoto, it is still one of the most volatile cryptocurrencies in the market. This is due to the changes in supply and demand and highly because the coin is decentralised. With cryptocurrencies being so volatile, there can be huge price changes between exchanges. This gives us an opportunity for arbitrage.
Cons Of Crypto Arbitrage
To trade on any cryptocurrency exchange, you need to adhere to the KYC regulations that are in place. Sometimes, you need to hold a bank account in the same country where the exchange is based, or you may need to link your bank account and verify your identity. It may also take up to 24 hours to verify your account via KYC before you can trade.
Since you need to access multiple exchanges for arbitrage, you may need to store your coins across them all. Since these crypto coins are stored in an online account, they are susceptible to hacks. Some of these smaller less known businesses also tend to steal the coins from their customers. So you need to be aware of this risk before you start signing up for crypto trading on less established platforms.
Crypto exchanges do not let you deposit, withdraw, or trade for free. They charge a definite percentage of the money as fees. So you need to include the fees while calculating the profit made from arbitrage.
Large Trades Provide Better Profit
Profits from arbitrage might be quite small after all the processing delays and fees that apply. To be able to make huge profits from arbitrage, you need to increase the trade volume.
When you place large trades, you need to keep in mind that exchanges have specific withdrawal limits. So you may not be able to withdraw the crypto balance from your wallet on the same day.
Each cryptocurrency transaction may take at least 10 minutes to be completed and verified by the miners. Within this period, the market may move against you, and you may lose your potential arbitrage profit. There are many cases where the trader has not received any profit as the market collapsed, and the profit turned into a loss.
In some cases, you might have bought coins from one exchange, but the market moved against you, and you were not able to sell the coin on another exchange.
With a surge in the trading volume on the global cryptocurrency markets, transactions take a longer time to be processed and verified. This could be a major issue when you are looking to transfer funds quickly. Bitcoin transactions take much longer to be processed when compared to Ethereum (ETH) transactions.
There may be more traders looking for arbitrage, and this may lead to changes in the trading volumes on different exchanges. This may also reduce arbitrage opportunities for others.
Important Things to Know Before You Try It
Always be on the lookout for new cryptocurrency listings. If any cryptocurrency is being listed on an exchange for the first time, chances are, there is little to no demand for the coin on the exchange.
Avoid Transferring BTC
Bitcoin transactions are known to take a lot of time. Since arbitrage requires you to trade as quickly as possible, BTC’s slow transaction time may hurt your chances of a profitable trade. You can consider altcoins such as ETH, which offers much quicker transactions.
Before you begin hunting for arbitrage, there are various factors and questions to consider. We recommend you plan how much money goes into every trade. What percentage of profit will you make? What are the various fees that can reduce your profit?
Making a clear strategic plan can help you answer all these questions and ensure that you seize the arbitrage opportunity.
Keep Monitoring the Market
Arbitrage opportunities may arise at any time of the day. You need to keep an eye on the market to notice them. There are higher chances of price differences during market volatility, so you need to monitor recent news and developments that could lead to such changes.
If you limit your trades to two-three exchanges, chances are you may hardly notice arbitrage opportunities, or you may only earn a small profit from any opportunity that arises. To earn a decent amount of profit, ensure that you trade on various exchanges. This also reduces the potential risk of putting all your eggs in one basket.
Since the cryptocurrency market is quite volatile, always ensure that you trade quickly or not trade at all. Sometimes to make money the risks far outweigh the rewards. It’s better not to lose your money than gamble on an arbitrage opportunity.
To protect yourself from sudden market changes, you can make use of hedging strategies. Hedging protects you from potential losses, but it also ends up reducing your potential profits. You can think of hedging as an insurance policy that protects you from imminent damages.
Final Thoughts on Cryptocurrency Arbitrage
There are multiple arbitrage techniques and opportunities that one can benefit from, whenever there is a market inefficiency. However, as more traders indulge in arbitrage, these opportunities start to disappear as soon as they arise. This helps the market to stabilise, and the prices may end up similar across exchanges.
Talking about exchanges, Zipmex is one of the most popular licensed and regulated exchanges in the crypto market. Zipmex offers low trading and deposit fees and also provides the best BTC prices. You have a variety of deposit methods, and they have a simple to use and beginner-friendly exchange.
If you live in Australia or Singapore, Zipmex does not charge you for fiat withdrawal fees. Zipmex only charges a meagre 0.2% for all buy and sell trades, which is quite a low fee in the current market. Zipmex also supports various fiat currencies such as USD (United States Dollar), AUD (Australian Dollar), SGD (Singapore Dollar), and IDR (Indonesian Rupiah).
Bank transfers may take between 1-3 business days whereas crypto deposits are almost instantaneous. Zipmex considers safety a priority. You can enable two-factor authentication for your account, which adds an extra layer of security. With just your login credential being compromised, hackers cannot gain access to your account. Zipmex also has its very own online wallet where you can store and withdraw cryptocurrencies from. You just need to navigate to the “Wallet” section in the top menu. You can head over to the exchange and see for yourself and begin your arbitrage journey.