What Is Cryptocurrency Arbitrage?

Key takeaways

Cryptocurrency arbitrage involves buying and selling cryptocurrencies on different exchange platforms to make a profit on temporary price differences. Here are some important things to know:

• By 2030, the global cryptocurrency market is expected to reach $11.71 billion [1]. 

• Traders often monitor multiple exchange sites simultaneously to identify price differences and quickly act on gaps when they arise.

• You can start arbitrage trading with cryptocurrency by uploading your capital to a related platform, identifying arbitrage opportunities with related tools, and automating trades based on custom rules.

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Note: This content has been made available for informational purposes only, and does not constitute financial, tax, legal, or investment advice. All investments involve risk, including risk of loss.

What is arbitrage in cryptocurrency?

Arbitrage in cryptocurrency is the practice of purchasing a digital asset on one exchange and then selling it for a profit on another. The global cryptocurrency market is growing rapidly, projected to reach $11.71 billion by 2030 [1], and is known to experience rapid fluctuation in prices. This leads to small gaps appearing between exchange sites that you can take advantage of. 

In traditional financial markets, arbitrage opportunities arise when the same asset has different prices across markets, such as stocks or currencies. Because cryptocurrency markets are decentralized and prone to volatility, they offer a good opportunity for arbitrage. For example, Bitcoin might sell at $60,000 on one exchange, and $60,100 on another. If you buy at $60,000 and sell at $60,100 immediately, you earn $100 from the difference. These price differences may occur due to differences in liquidity across exchanges, leading to slower update times on busier platforms, or from differences in regional demand.

Learn more: How to Buy Cryptocurrency 

Why traders use cryptocurrency arbitrage

Arbitrage allows traders to generate returns without predicting whether a coin’s price will rise or fall overall. Instead of relying on market trends or other speculations, traders exploit these differences and earn a profit independent of long-term price projections. This makes it a lower-risk type of trading compared to directional trading, which involves holding assets for a period of time in anticipation that the value will increase.

One reason traders choose cryptocurrency arbitrage is that the cryptocurrency market is open 24/7 across global exchanges, meaning price discrepancies happen more commonly due to a fragmented market. By incorporating the right timing and tools, you can repeatedly earn a profit using this strategy. 

Is crypto arbitrage legal?

Yes, crypto arbitrage is both legal and encouraged in the United States. Arbitrage trading acts as an intermediary, leading to liquidity in different markets. In addition, crypto arbitrage traders draw in additional traders who want to exploit the same discrepancy for a quick buck, contributing to overall market efficiency. 

Cryptocurrency arbitrage strategy types 

You can use several types of cryptocurrency arbitrage strategies to earn a profit. Some of the most popular include:

Simple arbitrage

Simple arbitrage, also called spatial or cross-exchange arbitrage, is the most common type of crypto arbitrage. It involves purchasing a cryptocurrency at a lower price on one exchange and selling it for a profit on another [2]. 

Spatial arbitrage, also known as cross-border arbitrage, may involve trading across exchanges in different geographic regions. In this case, traders capitalize on regional price differences and net a profit across global exchanges. 

Triangular arbitrage

Triangular arbitrage takes advantage of price discrepancies between three different cryptocurrencies to turn a profit. With this method, you would buy one asset, trade it for the second, then trade the second for the third [3]. 

To do this successfully, these trades need to happen rapidly, almost simultaneously. Because of this, triangular arbitrage is best done with a trading bot or other software.

Statistical arbitrage

A more complex form of arbitrage involves using a data-driven approach to identify price movements in cryptocurrencies that inform holding patterns. For example, machine learning algorithms might identify relationships between two coins, notice that a specific asset tends to fluctuate around and revert to a certain mean value.

Based on these patterns, you could decide when to buy, sell, trade, and hold different assets to maximize long-term profit. In many cases, you would use a bot to perform these trades based on an analysis of historical data and algorithms that quantify opportunities against potential risks [4]. 

Tools and cryptocurrency arbitrage software

To maximize the effectiveness of your arbitrage strategy, you can use price monitoring bots to automatically buy and sell cryptocurrencies. This can help you take advantage of discrepancies more effectively. When starting with new tools, consider the following:

• Coinrule: Automates trading strategies without coding, allowing you to set custom rules and trade automatically

• Cryptohopper: Uses cloud-based bots connected to multiple exchanges that allow you to chart market movements and trade automatically 24/7

• Bitsgap: Integrates with over 16 cryptocurrency exchanges so you can manage your portfolio and automate your trading in one centralized location 

• CoinMarketCap: Shows you real-time prices, allowing you to spot potential arbitrage opportunities quickly

Pros and cons of cryptocurrency arbitrage

Investing time in cryptocurrency arbitrage can provide an exciting avenue to earn extra income. However, being aware of both the advantages and disadvantages is important to ensure you have a comprehensive understanding of the risks associated with this activity.

Advantages

Cryptocurrency arbitrage has several advantages for traders and for the market as a whole. For traders, arbitrage can offer financial opportunities through price mismatches. Taking advantage of these mismatches can provide lower-risk opportunities to make a profit without being affected by volatile markets. 

For the market, cryptocurrency arbitrage increases market liquidity, which is a sign of financial health for the crypto market. Markets with more liquidity tend to be more stable, which could reduce risk for longer-term investments. In addition, arbitrage may help correct pricing imbalances, helping to keep crypto pricing more stable over time. 

Disadvantages

On the other hand, like any type of trade or investment, certain risks are unavoidable. Arbitrage trading relies on quick trades with accurate timing, meaning if the market moves too quickly, traders might not be able to sell the asset they purchased at the higher price they anticipated. The speed with which these trades take place is often only achieved by bots, so traders must be quick or have the resources to deploy bots on their behalf in order to buy and sell effectively.

If traders get stuck buying an asset without being able to sell, and then the price drops, they could incur a loss. In addition, it’s essential to be aware of transaction fees and other costs that may eat into earnings, ensuring trades produce a meaningful profit. Making a significant profit from arbitrage requires substantial capital to purchase enough cryptocurrency to generate a considerable return and to absorb any transaction costs and fees. Diversifying purchases, looking for trading avenues with minimal transaction fees, and not getting too wrapped up in individual trades can help traders operate at a profit over time. 

Arbitrage trading in cryptocurrency: Careers and skills

To boost your proficiency in arbitrage crypto trading, developing skills relevant to trading, cryptocurrency monitoring, and financial analysis can help you establish a solid foundation. On the cryptocurrency side, these might include programming, cryptography, blockchain, and even software engineering. 

When it comes to investing, understanding how to monitor market movements, identify arbitrage opportunities, and execute trades are all necessary skills for success. Career-wise, you might consider roles as a financial analyst or cryptocurrency trader to specialize in predicting and executing trades. 

How to trade arbitrage cryptocurrency

Arbitrage cryptocurrency trading takes an upfront investment, mindful trade selection, and a tolerance for a little bit of risk. As a general guide, consider the following steps [5].

1. Prepare your investment capital. If you can, keep your capital on the trading platforms you’re likely to use to purchase your digital assets. Platforms that connect with several trading spaces might help you make time-sensitive trades effectively. Ensure your crypto wallets have funds you can deploy at a moment’s notice.

2. Identify arbitrage opportunities. Find arbitrage opportunities through scanning multiple trading platforms, either manually or using related tools. In many cases, less popular coins might have more profitable arbitrage opportunities.

3. Make the trade. Once you find an opportunity, execute the trade either manually or automatically. Automated trades tend to have an advantage over manual movements in terms of speed. 

Stay up-to-date with cryptocurrency topics using our free resources

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