What is Bitcoin Arbitrage
If the crypto space were a Formula 1 race, Bitcoin (BTC) would have unarguably been the Michael Schumacher of it – fast, flawless, and fantastic. And for that matter, it is no surprise to see that it is now the most valuable of all cryptocurrencies ever created. The area where this virtual currency truly excels is its dual role.
It proves to be an ideal solution to the fiat currencies, on the one hand, and on the other hand, it functions as an asset that never stops growing in value. It is for the latter part that Bitcoin is considered a potential and long-term investment opportunity. Consequently, several cryptocurrency exchanges proliferated where the trader would trade with Bitcoin like any other commodity and take advantage of its volatile nature.
However, there is another way to make money from this speculative digital currency that very few people know – Bitcoin Arbitrage.
What is Bitcoin Arbitrage
- Bitcoin arbitrage is an investment strategy wherein the investors buy Bitcoin from one particular exchange and sell it at another exchange where the price of Bitcoin is considerably higher than the price at which the Bitcoin was purchased. No exchange trades Bitcoin at the same price; this makes an opportunity for investors to take advantage of a price difference between two exchanges.
- In the cryptocurrency ecosystem, the Bitcoin arbitrage phenomena are one of the cryptocurrency trading strategies.
- Using Bitcoin arbitrage, investors can buy and sell cryptocurrencies between different exchanges and take advantage of the price gaps. Know that Bitcoin prices tend to fluctuate more often, and cryptocurrency exchanges list different rates depending on the trade activity.
- As we said, Bitcoin arbitrage trade is a phenomenon that gets very little attention from users. So, this comprehensive guide covers every aspect of Bitcoin arbitrage trading to enhance your understanding of it.
Everyone knows that Bitcoin has the largest market capitalization and trades at the highest price in the closed crypto markets. Hence, to proceed with arbitraging, a trader must be well-informed about the factors that determine the price of Bitcoin.
Bitcoin Arbitrage Trading
Unlike commodities, Bitcoin is not supported by anything like a physical asset, making its price unpredictable. Likewise, the intensity of trade activity decides in which direction the price will go. Marketplaces witness unequal trading levels, and their order books contain buy order and sell order at different pricing. The catch here is that the most recent trade at a trading platform depicts the latest price, making it disproportionate to the other. Usually, trading volume affects the supply and demand of Bitcoin, which means marketplaces with increased trading volumes would offer lower rates and vice versa.
The gaps in rates could be small or large, but the trends suggest that the price disparities do not last long. Crypto arbitrage phenomena are investment tactics of monitoring the momentary price movements on marketplaces and trading on the higher price. In essence, the process of purchasing cryptocurrencies from one exchange with lower ask prices and selling them simultaneously on another exchange with higher bid prices is called Bitcoin arbitrage.
The broad price difference occurs due to liquidity at large marketplaces that drive the prices and forces the smaller marketplaces to keep up with the pace. This competitive approach from the marketplaces provides perfect market arbitrage opportunities.
While arbitraging is among the most prevalent financial strategies, its use in Bitcoin trading was first noticed in 2018 in South Korea. Then its marketplaces experienced a massive gap in cryptocurrency rates, especially Bitcoin, referred to as the kimchi premium. Driven by the surge in prices in South Korea, investors started buying BTC at a lower price on South Korean marketplaces and selling them at a much higher price in the marketplaces outside of the country.
The inefficiencies with the marketplaces due to the illiquid crypto market could be another reason for pricing variation. Let us look at what else it has to deliver and the points one should remember when arbitraging BTC before explaining various ways to execute it.
Advantages of Bitcoin Arbitrage
- Making money through arbitraging is considered faster than traditional trading.
- With hundreds of marketplaces to choose from, the arbitrageurs get more options to make money with arbitrage.
- The high volatility of Bitcoin means prices would never be the same at different exchanges, making it ideal for arbitraging.
- Bitcoin is still trying to become a mainstream currency and faces less competition, leading to price differences.
Key Points to Consider Before Arbitraging Bitcoin
- Carefully choose a Bitcoin exchange that is trusted and charges low trading fees for arbitrage.
- Keep an eye on the prices at different marketplaces.
- Look at the order book of the cryptocurrency exchange to find arbitrage opportunities.
- Arbitrage on various marketplaces.
- No minimum or maximum limits for trading.
- Have complete knowledge of tools and processes involved in arbitrage.
- Assess the profit after deducting trading fees.
- Be swift in transactions as prices can go low very quickly.
How to Arbitrage the Bitcoin
How to Arbitrage the Bitcoin
To get started, the arbitrageur needs to own a digital wallet with a few Bitcoins in it. In the next step, they should open accounts with the exchanges to be used for crypto arbitrage. Based on individual preferences, there are different types of arbitrages.
- Simple or Spatial Crypto Arbitrage: It is the most common type of crypto arbitrage between two marketplaces, for example, BitFinex and Coinbase. After registering with both the exchanges, the trader would purchase some Bitcoins from the first by paying the lowest ask price and then sell them immediately at the second crypto exchange with the highest bid price. The disparities between the transactions will be the profit generated from arbitrage. The best advice to make money from this method is to have Bitcoins at both the exchanges. Doing so will save the arbitrage trader from losing crucial time and incurring additional transaction fees when crypto trading.
- Triangular Arbitrage: As the name suggests, triangular arbitrage involves arbitraging BTC against two different cryptocurrencies, such as Ethereum (ETH) and Ripple (XRP), on one or across three exchanges. As cryptocurrencies have different market values, selling BTC for ETH, buying XRP with ETH, and purchasing BTC back using XRP could help the trader benefit from undervaluing cryptos. Most importantly, no transfer fees apply when using one exchange.
- Cross-Border Arbitrage: Similar to the spatial arbitrage but different in the use of exchanges located in two different countries. The trading process remains the same except for the other jurisdiction’s Bitcoin regulatory criteria, which is why it is the least favored method of arbitration by cryptocurrency traders.
- Automated or Statistical Arbitrage: Entirely based on mathematical data modeling and arbitrage bot, statistical arbitrage is a more convenient approach. It uses predefined data models to analyze crypto market trends and execute buying and selling of BTC simultaneously. Please note that the use of a quantitative algorithm makes this process a bit riskier of all.
- Decentralized Finance (DeFi) Arbitrage: Decentralized exchanges, such as Uniswap, operate on the EOS blockchain protocol and can be used for spatial crypto arbitrage. These exchanges also offer varying rates, and their trading bots make sure that the arbitrage is processed first.
Is Bitcoin Arbitrage Profitable
Is Bitcoin Arbitrage Profitable
Yes, one can make money by taking advantage of price variations listed on different crypto exchanges. With that said, the arbitrageurs must be mindful of making effective use of arbitraging techniques. Of all the arbitrage methods, spatial arbitrage is relatively easy but less effective, while automated arbitrage is amazingly quick but highly risky.
Arbitrage is equally profitable for both day crypto traders and regular cryptocurrency traders, provided they make decisions in time as the crypto prices may change the very next moment that will narrow down the profit. To prevent time-loss, traders should use arbitration software to identify substantial arbitraging spreads between multiple global BTC exchanges. Doing proper research, calculating the net profits, and considering the amount of effort needed are keys to a successful crypto arbitrage.
There are a couple of things that might lower the potential arbitrage opportunities. First, technical innovations allow exchanges to facilitate trading immediately without any price errors or gaps. Second, every cryptocurrency arbitrage activity increases the price on a crypto exchange, which leaves a very little chance for the next arbitrage that is profitable.
Arbitraging of Bitcoin occurs when the traders buy and sell crypto from one exchange to another. Cryptocurrency arbitrage trading allows taking advantage of trade rates that vary with trading exchanges. On the other hand, contrary to popular trading methods, such as margin trading that is nothing less than manipulating the cryptocurrency markets, arbitraging can be considered a more reliable trading strategy.
Bitcoin is highly volatile, and it widens the gap between rates at different exchanges, the reason being that smaller cryptocurrency markets struggle to meet the competitive rates. Furthermore, the market inefficiency and early days of the virtual currency give enough room for price divergence. In other words, as the market grows, the trading volume increases, and more arbitrage opportunities arise.
Traders can select from multiple arbitrage techniques, use them to their advantage, and cash-in on the arbitrage opportunities that presented themselves. Most investors prefer arbitraging manually, but cryptocurrency exchanges integrate arbitrage bots to buy and sell Bitcoins from one exchange to another as instructed. As a quick reminder, arbitrage traders must take into account a few things like the wide profit margins, large capital, and transaction fees to reap significant profits.
At first, crypto arbitrage trading seems simple but involves intricacies. And the method used by the trader for arbitraging trade could make a huge difference between earning sustainable profits or suffering huge losses. That is why we curated this guide. We hope that knowing the fundamentals of crypto arbitrage will help you better understand the process, its consequences and earn additional passive income.
Frequently Asked Questions
1) Is the Arbitrage of Bitcoin legit?
Absolutely, given a country where it is to be performed has not proposed a ban on crypto in its jurisdiction. Apart from that, crypto arbitrage is a legit way of exploiting the cryptocurrency price differences. Except for indulging in purchasing BTC from one marketplace at a reduced market price and selling it in another marketplace at an increased rate, the crypto trader needs to do nothing. Since arbitrage is a globally recognized financial strategy, it is assumed not to circumvent any law when done with Bitcoin.
2) What is an example of Arbitrage?
Bitcoin is available for arbitraging on all the leading cryptocurrency markets but at slightly varying rates. The average percentage of gaps in rates could range from five to ten, depending on the transaction volume at a particular exchange. Here, we will use crypto exchanges BitFinex and Coinbase as an example to explain to you how to perform arbitrage and calculate the profit in steps.
Arbitraging Bitcoin By Crypto Trader
- Step 1 – Consider buying 50 Bitcoins from the order book of BitFinex at $33,728 (price at the time of writing).
- Step 2 – Observe the price differences at Coinbase at the same time.
- Step 3 – Price at the order book of Coinbase stands at $33,874 (price at the time of writing).
- Step 4 – Now transfer and sell those Bitcoins at Coinbase simultaneously.
- BitFinex – Bought 50 Bitcoins x $33,728 = $1,686,400
- Coinbase – Sold 50 Bitcoins x $33,874 = $1,693,700
- Profit Generated – $1,693,700 – $1,686,400 = $7,300 ($146 per Bitcoin)
Please note that Bitcoin deposit fees, withdrawal fees, and transaction fees are not included in the resulting benefit, which, if added, would minimize the margin to a degree. Therefore, traders can imagine making substantial money from arbitrage only if they consider investing in more Bitcoins. Also, remember that the wider the gap between rates, the more profitable the crypto arbitrage.
3) Is Arbitrage Legal In South Africa?
South African traders are actively involved in buying and selling BTC across various cryptocurrencies. The most popular Bitcoin trading service provider in the country includes Ovex, Coindirect.com, Luno.com, BitDirect.co.za, and Localbitcoins.com. That is why crypto arbitrage trading has become a prominent factor in bringing more Bitcoin to South Africa.
Although the South African Reserve Bank is aware that crypto arbitrage activity is growing within the region, the South African government has not given any guidance regarding the crypto arbitrage regulation. However, it has advised its traders to understand the risks and benefits of crypto trading before engaging in arbitrage.