There are many ways to make money trading cryptocurrencies, including arbitrage. However, arbitrage is not unique to cryptocurrency. Referees profit from arbitrage even in the traditional financial market. By buying a security on a low-priced exchange and instantly selling it on another higher-priced exchange, a trader can exploit the price difference. Cryptocurrency price differentials on many exchanges provide opportunities for arbitrage.
What is arbitration?
Arbitrage is the act of simultaneously buying and selling assets on different markets and exchanges to profit from the price differential. The price gap or imbalance is known as the spread. To perform arbitrage, you must buy an asset from one exchange for a lower price and immediately sell the asset to another exchange for a higher price.
Similar to sports arbitrage and fiduciary arbitrage, crypto arbitrage involves buying a crypto asset in an exchange where the price is low and selling it where the price is higher. However, this is just one of the different ways of crypto arbitrage. Traditional fiat currency traders rarely enjoy the benefits of arbitrage. On the other hand, there are several ways for an arbitrageur to benefit from crypto arbitrage.
Large crypto exchanges track the strength of demand and supply to determine the price of an asset. If the demand for a particular asset, say XRP, is low in an exchange, its price will drop in that exchange, but if the demand is high, its price will rise. Most of the smaller exchanges follow the price set in the larger exchanges. If you want to learn how to buy cryptocurrency, read here for more.
Types of crypto arbitrage
It is the most simplistic form of arbitration. In space arbitrage, you buy a cryptocurrency on one exchange and immediately sell it on another exchange, taking advantage of the price differences between the two exchanges. To take advantage of spatial arbitrage, you need to buy where the price is low and sell where there is a significant rise in price. For example, you can buy 1 Bitcoin at the rate of $ 40,200 from Gemini and sell the same volume of BTC at $ 40,310 on Binance.
Problems with this type of arbitrage include transaction costs on both exchanges and transfer time. You have to be very quick with your transaction, otherwise the price might have increased where you intend to sell.
This involves trading three pairs of cryptocurrencies simultaneously in a single exchange. According to statista, as of October 2021, there are over 6000 cryptocurrencies and you can combine any of them to perform triangular arbitrage, especially the larger ones. For example, you can trade BTC for ETH, ETH for DOT, and DOT for BTC. The problem with triangular arbitrage is that it can be difficult for people new to cryptocurrency trading to be able to compare the price of different assets or know which assets to combine.
If you are confused, multiply the amount you are trading by the exchange rate of the first cryptocurrency pair, then divide it by the exchange rate of the third cryptocurrency pair. If the answer is more than the amount you want to trade, you can make a profit, that is, after deducting the trading costs.
Rather than jumping from exchange to exchange and risking technical issues and slippages, using a bot to automatically complete the trade is safer. The high levels of volatility in crypto exchanges can cause the expected price to change and rather than profit from arbitrage, you can suffer a loss. Rather than constantly looking for opportunities, a bot can get the job done automatically and in less time. As soon as there is a slight price change that a crypto trader can benefit from, the bot will profit from it.
Crypto arbitrage robots use algorithms that analyze data and trends, especially coin prices on many exchanges, and then make trades based on the differences observed. A bot is quite an investment and experienced crypto traders take advantage of it rather than sitting around with their computers constantly checking price differences.
To benefit from crypto arbitrage:
Make sure that the fees charged on your transaction are not as high as the profit you are making. For example, if the price differential is $ 20, don’t automatically assume that this is your profit. Take into account the withdrawal and sometimes deposit fees that will be deducted by the exchange. You can also split your crypto assets across multiple exchanges, this will reduce the impact of fees during arbitrage.
As an arbitrageur, time is running out. While waiting for your transaction to be processed, slippages can occur and cause you to lose money. To sell for a higher price on another exchange, you need to develop a fast and efficient arbitrage method and stick to it as the cryptocurrency market is very volatile and might not work in your favor.
Use secure hot wallet exchanges. Most of the centralized cryptocurrency exchanges provide hot wallets for users to keep their assets and they are susceptible to hacker attacks. To protect your money from loss, do proper research on the exchange you want to use. More often than not, if it’s too good to be true, it isn’t.
In cryptocurrency, it is very common to find different exchanges offering the same digital currency at different prices. Profiting from the price imbalance is not without risk. However, if you can do your due diligence, you can benefit greatly from crypto arbitrage.
This article is for information only and does not constitute investment advice.