If you’re someone who’s been dabbling with trading cryptocurrencies or exploring crypto markets, you might have noticed that a single asset, say Bitcoin, can trade for different prices across various crypto markets and exchanges. So, what’s the deal with these price differences and is it even worth it to find out why? Yes. Trust us, you will want to know why.
These types of price differences, however tiny, present an opportunity to carry out a useful trading strategy called – arbitraging. By taking complete advantage of crypto price differences across markets, crypto arbitrage is the process of facilitating the purchase and sale of an asset and creating a profit from finding the gaps and capitalizing on these price differences. The primary goal of crypto arbitrage therefore is to generate profit.
The basic principle of arbitraging
Buy low and sell high – captures the very essence of arbitraging. The concept of arbitrage as a profitable trading strategy is prevalent across capital markets, in stocks, bonds, and commodities, wherever the same asset trades for different prices in different places.
However, there’s much more to crypto arbitraging than just taking advantage of price spreads across different exchanges.
Types of crypto arbitrage
There are three distinct forms of crypto arbitraging:
Regular arbitrage refers to buying and selling the same digital assets on different exchanges with significant price differences.
Triangular arbitrage as its name suggests refers to making profits by exploiting the price differences between three cryptocurrencies on the same exchange, or across multiple exchanges. In other words, through this strategy, an investor starts with one cryptocurrency and then trades it for another cryptocurrency on the same exchange—one which is undervalued relative to the first crypto. The investor can then trade that second cryptocurrency for a third cryptocurrency, which is relatively overvalued when compared with the first.
Automated arbitrage is the process of using several applications and tools to find arbitrage opportunities, which otherwise can seem like an arduous task. Some of these tools help traders identify suitable arbitrage opportunities in real-time and automate them to execute trades quickly.
What are the benefits of crypto arbitraging?
- Rapid transactions and quick profits: Crypto arbitraging is a valuable strategy that enables investors to rapidly make profits and increase their capital.
- Diverse opportunities: There are more than 200 exchanges where investors can buy and sell cryptocurrencies, which present a range of profitable arbitrage opportunities.
- Increased arbitrage opportunities: Given that cryptocurrency markets are still young and volatile, most exchanges don’t share information and work on their own. Price disparities are a common occurrence across multiple exchanges, presenting profitable arbitrage opportunities.
- Less competition compared to traditional markets: Although arbitrage trading is a popular concept in the conventional trading space, the crypto space in itself is far less explored and is therefore a lot less competitive.
The bottom line
The general perception about cryptocurrency trading is that it’s complicated, now add to the mix arbitrage strategies and things can become quite challenging to comprehend. However, since the practice is legal, it has the potential to yield high rewards while exposing an investor to high risk. As with any investment strategy, it’s important for investors to do their own research when exploring crypto arbitrage, including looking at different, lesser-known cryptocurrencies, and available software to track cryptocurrency exchanges in real-time.