Crypto arbitre
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How do crypto prices work? So how does cryptocurrency get its value? Some critics point out that cryptocurrency is not backed by anything, so any value assigned to it is purely speculative. The counterargument is roughly that if people are willing to pay for a cryptocurrency, then that coin has value. On exchanges, the game plays out in order books.
These order books contain buy and sell orders at different prices. This order would go on the order book. The buy order is then taken off the order book as it has been filled. This process is called a trade. Cryptocurrency exchanges price a cryptocurrency on the most recent trade.
This could come from a buy order or a sell order. Each crypto exchange prices cryptocurrencies this way, save for some crypto exchanges that base their prices on other cryptocurrency exchanges. Different types of arbitrage Between exchanges One method of crypto arbitrage is to buy a cryptocurrency on one exchange, then transfer it to another exchange where the currency is sold at a higher price. There are a few problems with this method, however.
Spreads usually only exist for a matter of seconds, but transferring between exchanges can take minutes. Transfer fees are another issue, as moving crypto from one exchange to another incurs a charge, whether through withdrawal, deposit or network fees. The price of Bitcoin can differ between exchanges. Image: Coinranking. A trader employing this method can then buy and sell a cryptocurrency simultaneously. Did you know? Cryptocurrency traders often use it because of its relative stability.
It makes it easier to hold cryptocurrencies without the risk that its price will massively decrease. The advantage to holding stablecoins such as Tether, instead of converting crypto to cash is that crypto-to-fiat transfers often incur huge charges. Triangular arbitrage This method involves taking three different cryptocurrencies and trading the difference between them on one exchange.
One or more of these cryptocurrencies may be undervalued on the exchange. So a trader might take advantage of arbitrage opportunities by selling their Bitcoin for Ethereum, then using that Ethereum to buy XRP, before finishing by buying Bitcoin back with the XRP. If their strategy made sense, then the trader will have more Bitcoin at the end than when they started.
Statistical Arbitrage Statistical arbitrage involves using quantitative data models to trade crypto. A statistical arbitration bot might trade hundreds of different cryptocurrencies at once, carefully working out the chance that a bot might profit from a trade based on a mathematical model, and going "long" or "short" on a trade.
Generally, a bot will give a cryptocurrency that's performed really well a low score and once that's performed particularly badly a high score; there are bigger profits to be reaped from those that performed well. A trading algorithm worth its salt will be great at creating mathematical models that can predict the price of cryptocurrencies and can expertly trade them against each other.
Decentralized Finance DeFi Arbitrage Decentralized finance, or DeFi , refers to non-custodial financial protocols that operate, without human intervention, as lending protocols, stablecoins and as exchanges. Their code-heavy architecture makes them perfect for arbitrage; there are several different strategies that "DeFi degens" looking to try arbitrage can employ.
You can get around this and transaction fees by buying and selling the asset simultaneously. This is possible if you hold assets on both exchanges. Triangular Arbitrage This type of arbitrage trading is a bit easier because it is done on a single exchange, although it involves three different assets. Assume you hold Bitcoin, Solana, and Ethereum. If the last two assets are undervalued on the exchange, you can use this arbitrage opportunity to get more Bitcoin.
For example, you use your Bitcoin to buy Solana, then use your Solana to buy Ethereum. Finally, you use Ethereum to buy Bitcoin again, and that's it. You will end up with more Bitcoin than when you first bought Solana, and without sending Ethereum to another exchange and paying its high gas fees.
As it is all done on the same exchange, no withdrawal, transfer, or deposit fees are involved. Statistical Arbitrage This involves using mathematical models to trade assets and profit from price differences. Statistical arbitrage also uses arbitrage bots, which are capable of trading hundreds of assets at the same time.
The bots use mathematical models to predict if a trade will be a winning or losing one and trade based on the prediction. As bots are involved, the process is mainly automated rather than manual, so there isn't much for you to do. This makes it more convenient with less risk of making mistakes.
Spatial Arbitrage This type of arbitrage trading takes advantage of differences in the price of an asset based on differences in the geographical locations of each exchange. It is very much like the inter-exchange arbitrage, apart from the spatial aspect. One factor that drives spatial arbitrage is differences in demand for an asset. For example, if you live in a country with high demand for Bitcoin, you can buy from an exchange based in another country where the demand for the asset is lower and sell on local exchanges in your own country.
This will make you an instant profit as the higher demand means the Bitcoin will be worth more. Although this sounds like the inter-exchange arbitrage, you don't have to buy and sell based on real-time prices, so you can buy from one exchange and manually transfer to the other to sell for a profit.
Pros and Cons of Crypto Arbitrage Trading Crypto arbitrage trading has its good and bad aspects, as you might expect. Pros Low-risk trading strategy that requires little experience Can be done during both low and high volatility Not many fees are involved in most arbitrage trades Cons Volatility causes rapid changes in price, which may be a challenge in inter-exchange arbitrage May require assets on at least two exchanges Is Crypto Arbitrage Trading Right For You?
Crypto arbitrage trading can be quite profitable if done right. It also involves very little to no risk, compared to day trading, for instance, which involves trading actual market movements. If you have the assets to trade and meet the conditions for any arbitrage trading methods listed above, it is definitely worth trying.
MakeUseOf does not advise on any trading or investing matters and does not advise that any particular cryptocurrency should be bought or sold.
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