Despite being less than a decade old, the cryptocurrency market has made huge leaps forward, both in its market value and its adoption. The market cap for Bitcoin alone rose from $700 billion to $1.1 trillion in as little as three months and user confidence in cryptocurrencies is at an all time high of 97%. The global cryptocurrency market is expected to grow to $5,190.62 million by 2026 with a compound annual growth rate (CAGR) of 30%.
Because of the highly regulated nature of traditional financial markets, only certain regulated bodies and intermediaries are allowed to make trades and fulfill orders. By comparison, the largely deregulated cryptocurrencies can be traded across a huge range of markets and in myriad different ways.
Because of this deregulation, trading in cryptocurrencies is an excellent opportunity to make profits through arbitrage, a term for exploiting price differences across different crypto exchanges, like Binance or Coinbase, or CoinCasso, and different assets.
In this article, we’ll be looking at what exactly crypto arbitrage is, what opportunities there are for crypto arbitrage, how to identify them, and how to create your own strategy for crypto arbitrage trading.
Arbitrage has been around for as long as there have been financial markets. Because of the global nature of financial markets, not all the actors in those markets are working on the same set of information.
This can lead to trades being made for the same asset at different prices.
Arbitrage is the term used to describe making a profit by taking advantage of these different prices.
If all trades across a certain market are being made at the same price, the market is then described as ‘efficient. All markets are inefficient to some extent what potential profit there is to be made from arbitrage depends on how inefficient a market is
Crypto arbitrage takes advantage of the fact that cryptocurrencies and cryptocurrency trading is a relatively new phenomenon.
The cryptocurrency market is prone to a certain level of volatility, reacting to things like memes and celebrity tweets, and smaller trades tend to follow the path set by larger ones.
Given that there is often a lag in price setting for these smaller trades, there is unusually ample opportunity for arbitrage trading.
Another aspect of the cryptocurrency market that makes it ripe for arbitrage traders is the presence of multiple different crypto exchanges serving many thousands of smaller traders.
Because traders tend to have a preferred crypto exchange, they often don’t take the time to look at the prices across the whole range of exchanges. This can lead to the same cryptocurrency being traded at different values on different exchanges, increasing the potential for profitable arbitrage.
Arbitrage trading is just the same as any other type of trading.
Just because it takes advantage of certain aspects of the cryptocurrency market and the trades are made rapidly doesn’t make them any less legal or above board than any other type of trade.
In fact, arbitrage trades are actually an important aspect of most markets, especially the cryptocurrency market. This is because the trades they make actually bring the market closer to efficiency, with one uniform price for the same asset.
The only legal aspect that arbitrage traders need to pay special attention to is their tax responsibilities.
Arbitrage often requires making multiple smaller trades on a daily basis and arbitrage traders need to be recording the correct profit and loss on each of those trades in order to be able to pay the correct tax amounts.
There are several different benefits associated with crypto arbitrage, including:
The good news is that there are certain inherent aspects of the cryptocurrency market that lend themselves to creating crypto arbitrage opportunities.
For a start, the inherent volatility of the cryptocurrency market means that prices are constantly fluid, creating exploitable price differences.
Secondly, the deregulated and decentralized nature of the cryptocurrency market means that there is less overall transparency than traditional financial markets. This results in delays in price finding that produce arbitrage opportunities.
When it comes to identifying crypto arbitrage opportunities, there are two key terms to focus on:
Identifying crypto arbitrage opportunities is all about monitoring the bid price and ask price across multiple crypto exchanges. The difference between those prices is called the spread and the larger the spread the greater the opportunity for arbitrage there is.
To give you a simple example that underlines this, if one exchange is trading Bitcoin at a hypothetical Ask Price of 1 and another has a Bid Price of 2, you can buy Bitcoin at the first exchange and sell it for double the price at the second one.
Obviously, this is only a simplified example and the actual profit on individual trades is often far smaller, but by making multiple quick trades per day, arbitrage traders can make a consistent profit over the short term.
The best place to find cryptocurrency trading information is what is called an order book.
Order books show order to buy, orders to sell, and the volume of potential trades. Order books are a vital part of identifying crypto arbitrage opportunities as you can easily assess the spread and how many assets you can buy from a certain trader.
The potential order volume is as important as the bid or ask price. Even the best spread isn’t going to yield much in the way of profit if the only orders you can put in are for tiny amounts.
You can access real time order books by creating an account with reliable Bitcoin exchanges like Coincasso.
The two most common types of crypto arbitrage strategy are simple and triangular and we’ll break down what both of those mean.
Simple arbitrage basically follows the process we set out in the example above. You buy low and sell high across multiple different exchanges.
Let’s look at a specific example:
If the ask price for etherium on one exchange is £35,800 and the bid price on another exchange is £36,000 you could buy on the first exchange and sell on the second exchange for a £200 profit.
The reality is that such a large difference between prices for the same coin is unlikely and most profits on simple arbitrage come from buying and selling quantities of assets to maximize profits off small price differences.
If simple arbitrage is taking advantage of price differences between the same asset, then Triangular is taking advantage of price differences between multiple assets.
Think of the three points of a triangle.
If each point is a different coin, then the aim of triangular arbitrage is to take advantage of different exchange rates across different exchanges to purchase different one coin with another in a triangular process that ends up with you trading back into your original coin and ending up with a larger amount.
For example, you could trade 1 Bitcoin for Litecoin on the first exchange, then that Litecoin into Ethereum at a second exchange, then finally the Ethereum back into Bitcoin at the first exchange and, with the right difference in exchange rates, end up with 1.2 Bitcoins.
Obviously, this is a far more complicated version of arbitrage and usually involves the use of trading bots and trading algorithms to find the correct combination of exchange rates on different exchanges.
Setting up your own crypto arbitrage system is remarkably easy and we’ve broken it down into steps for you to follow:
The first step in setting up your own crypto arbitrage system is to register at multiple crypto exchanges, such as CoinCasso, Coinbase Gemini, and Kraken.
As we’ve already mentioned, the greatest opportunities for arbitrage trading come from taking advantage of different pricing and different exchange rates across different exchanges, so you’ll want to be trading on all the major ones.
As we mentioned earlier, finding cryptocurrency arbitrage opportunities is all about using real-time exchange data, such as order books to find opportunities to buy and sell coins at the lowest possible ask price and the highest possible bid price.
Once you’ve identified an opportunity, you’ll need to step in and make those trades quickly. The market for even the most established coins, like Bitcoin and Etherium, are remarkably volatile and arbitrage traders need to be quick to take advantage of market imbalances.
You need to work out your profit and loss for each trade in order to understand your tax burden, but also to give you the data you need for step five.
Once you’ve made some trades and recorded the profit and loss for them, you’ll need to go back over your data and start looking for profitable patterns to exploit
While this might sound easy, the reality is that it involves a lot of data analytics to get right. The good news is that there are some excellent tools on the market to support you.
If you’ve made it this far and are still interested in getting started with cryptocurrency arbitrage trading, here are a few top tips to help you get started.
The cryptocurrency market has a unique combination of facets, like inherent volatility, multiple exchanges, multiple assets, and high market inefficiency that make it ideal for making profits through cryptocurrency arbitrage.
By registering on multiple exchanges and taking advantage of different princess across different coins on those exchanges, savvy arbitrage traders are able to make quick trades that result in quick short-term profits.
Getting started as a cryptocurrency arbitrage trader is surprisingly easy and your first step towards making money on the cryptocurrency market is to start by creating an account with a reputable coin exchange like CoinCasso
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