Crypto Arbitrage: Moving Money to Make Money (Basically)
There are a lot of terms that get thrown around in the crypto world. Because of that, it can be difficult to keep up with all of them, especially if you don’t come from a financial background. In today’s installment of Cryptocurrency ABCs, we’re looking at “crypto arbitrage.”
You’ve likely heard the term before (we’re not talking about the 2012 movie though), but a lot of people don’t understand what the actual concept is, so let’s break it down.
First, let’s start with Investopedia’s definition:
Arbitrage is the simultaneous purchase and sale of an asset to profit from an imbalance in the price. It is a trade that profits by exploiting the price differences of identical or similar financial instruments on different markets or in different forms. Arbitrage exists as a result of market inefficiencies and would therefore not exist if all markets were perfectly efficient.
Great, so we know that arbitrage has something to do with different prices in multiple markets and we’re benefiting from that. But how do we benefit from that? And what does that have to do with crypto? Well, let’s put that into context with crypto arbitrage.
Crypto Arbitrage: What Is It?
Using the definition above, you may be able to already piece together what exactly is going on. But if you haven’t yet, don’t worry! That’s why we’re talking about it.
In simple terms, crypto arbitrage is simply buying crypto from one exchange, sending it to another exchange, then selling it at a higher price to make money. It’s really that simple.
Now what makes crypto arbitrage unique is that you’re not buying low and selling high like a regular trader (well, you are, but you’re not purchasing it and holding on to it to wait for the price to go up). Instead, you’re looking at multiple cryptocurrency exchanges and seeing what the differences in prices are.
If you find bitcoin trading substantially lower on one exchange, then you can purchase the bitcoin for x amount and send it to your wallet on another exchange where the price is x amount + $25.00 (or any other amount).
With crypto arbitrage, you’re taking advantage of the fact that exchanges all have slightly different prices and trading volume. Let’s say bitcoin is trading for $7,400 on Binance but then I login to Coinbase and see it trading for $8,200.
To successfully make money off of the situation, I’ll need to purchase BTC from Binance then transfer it to my Coinbase bitcoin wallet to sell it there. Now, in order for this to work, I have to make sure that the price difference is big enough that it will cover withdrawal fees as well. I also have to consider that prices change quite rapidly in the cryptocurrency world. Because of that, the longer it takes to transfer the funds, the greater the chance that something could go wrong and the market levels out before you can sell.
While the concept itself is simple, the difference in prices is nearly never that drastic (we used the big price difference just as an exaggerated example). Additionally, you’ll have to be incredibly quick and calculated with your decisions. However, if you’ve got the skill and speed to exchange, there are traders making significant profits off of well executed crypto arbitrage.
Crypto Arbitrage: Market Inefficiencies
Now that we understand the what, what about the how?
Successful arbitrage relies on only one requirement: imperfect markets. Essentially, all that means is that not all cryptocurrency exchanges and markets will have the exact same prices.
Since there is no single global cryptocurrency exchange where all crypto assets are bought and sold, there are going to be differences in pricing. Some exchanges have more volume (more trading going on) than others. With that higher trading volume comes quicker changes in pricing. Other exchanges, on the other hand, may have very low volume and take longer for prices to react to global sentiment and price standards.
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