The essence of cryptocurrency arbitrage comes down to conducting a quick series of trading transactions to make money on the difference in rates of one or several assets. Such trading can be done manually or using special programs and bots.
What is cryptocurrency arbitrage
To make money in the market, you need to buy assets at a low rate and sell when they rise in price. The difference between the purchase and sale costs becomes the trader's net profit. Arbitrage trading works on a similar principle.
The rate of one cryptocurrency at a time may differ on different platforms. For example, Bitcoin may cost $20,000 on Binance, but $20,500 on another exchange. It is this difference that arbitrage traders use to make money.
An inter-exchange transaction is carried out in two stages:
buying cryptocurrency on an exchange where the price is lower;
selling the same asset on another exchange where the price is higher.
There is also intra-exchange arbitrage, when orders are opened on one platform. In this case, the trader makes money on the difference between the rates of one asset in different trading pairs.
The rate of an individual cryptocurrency depends on various factors. For example, the intra-exchange price of BTC in pairs against USDT and BUSD may differ. The cost is also affected by trading commissions and withdrawal conditions.
In addition, the demand for the exchange matters:
Large trading platforms have a high level of liquidity, so their quotes are as close as possible to the market average.
On small exchanges, liquidity for new coins may be too low, and quotes may differ significantly from the market average.
Unlike conventional trading, with arbitrage, buying and selling must be carried out as soon as possible, without waiting for the market situation to change. To speed up this process, you can use special bots.
Earnings from arbitration
For arbitrage, a trader needs to create and set up accounts on all platforms where he plans to earn money. When trading, you need to look for coins whose rates differ on different exchanges or in different pairs.
During the day, a trader can monitor a large number of charts. Once you have found the appropriate values, you need to carry out the transaction. There are special programs and bots that allow you to automate this process.
An inter-exchange transaction can be carried out using one of two algorithms:
Open a long order on one exchange and immediately open a short order on another exchange.
Buy cryptocurrency on one exchange and transfer it to another exchange to sell it at a higher price.
In the second option, the rate may have time to change in an unfavorable direction during an inter-exchange transaction. In this case, the price difference may disappear and the trader will not earn anything. Therefore, for arbitrage it is better to choose cryptocurrencies that are created on high-throughput blockchains.
Earning Strategies
There are several types of cryptocurrency arbitrage for making money on the difference in rates.
Inter-exchange arbitration
This is the most popular way to make money on the difference in cryptocurrency rates. The more platforms are used for inter-exchange arbitrage, the easier it is to find a noticeable gap in quotes.
It is quite difficult to independently monitor the situation on different exchanges and coins. Therefore, traders use bots and programs to automate inter-exchange arbitrage.
Such bots are capable of independently analyzing hundreds of trading pairs on dozens of cryptocurrency exchanges (centralized and decentralized). Statistics show that trading programs now account for up to 99% of arbitrage transactions.
Traders also sometimes buy signals for arbitrage trading. In this case, the bot or program gives notifications about which cryptocurrencies and on which exchanges you need to buy or sell.
The difficulties of inter-exchange arbitrage include the following factors:
Restrictions on the part of trading platforms. Exchanges that are regulated by regulators can monitor and block suspicious activity.
Possibility of delaying withdrawal from the exchange. Any operations that take time during the arbitrage process increase the risk of lower profits or losses. This factor is offset by the use of long and short orders.
The need to take into account transaction fees and inter-exchange transactions. They reduce the profit from the difference between the purchase and sale prices.
Bots are not working correctly. A program that automatically opens orders affects the trader's profit and loss. In some cases, the bot may begin to make unprofitable trades. If you do not turn it off in time, you can receive a loss up to the complete zeroing of the deposit.
The key advantage of inter-exchange trading is the ability to make a profit with almost no risk. For arbitrage, the normal profit from one chain of transactions is considered to be 0.01%, but with intensive trading you can get a higher income.
Intra-exchange arbitrage
Intra-exchange arbitrage involves conducting a series of transactions within one platform. In this case, a minimum of three related trading pairs are used. Profit is obtained due to the sharp decorrelation of rates.
For example, we can take contingent assets:
Cryptocurrency X costs $1000.
Cryptocurrency Y costs $100.
In this case, 1X would cost 10Y. However, during a sharp increase in trading volumes in the X/Y pair, the rate may jump, for example, to a value of 1X = 11Y. At the same time, the prices of both assets in fiat equivalent may remain at the same level.
In such a situation, a trader can conduct a series of transactions:
Buy 1 X coin for $1000.
Exchange 1X for 11Y.
Sell 11Y for $1100.
Thus, the trader’s earnings from the intra-exchange rate difference amounted to $100.
Taking into account commission costs, intra-exchange arbitrage is more profitable than working with several sites, since you do not need to pay for transferring funds between them.
Another advantage of this type of arbitrage is that the trader does not waste time on transactions between exchanges. Therefore, trading in the format of intra-exchange arbitrage allows you to react to market changes as quickly as possible.
A noticeable disadvantage of intra-exchange arbitrage is the restrictions imposed by the exchanges themselves. They constantly analyze quotes to identify correlations between rates. The difference found is quickly eliminated, which is why arbitrage often gives zero profit.
To increase your overall income, it is better to combine inter-exchange and intra-exchange arbitrage.
Multicurrency inter-exchange arbitrage
This trading method combines intra-exchange and inter-exchange arbitrage, where multiple cryptocurrencies and multiple exchanges can be used to execute trades.
For example, a trader might execute the following series of trades:
On exchange A, buy ETH for USDT.
On exchange B, exchange ETH for BTC.
On exchange A, sell BTC for BUSD.
Such chains of transactions are quite difficult to identify and carry out manually. Therefore, the use of bots is especially important for them.
Working with different markets
Experienced arbitrage professionals can execute trades between the spot and futures markets.
When opening positions on futures, different contracts are used - perpetual, monthly, quarterly, etc.
This type of arbitrage gives tangible results during strong market movements. Typically, transactions are made when news impulses form. At this time, there may be a high difference between the spot price and the contract rate.
Tools (software) for cryptocurrency arbitrage
There are various programs to optimize the arbitration process. They help you quickly track quotes and conduct transactions on different exchanges.
Course scanners
Rate scanners allow you to track increases and decreases in the value of a large number of assets on selected exchanges. Typically, such programs have a user-friendly interface that displays trading data in the form of tables and graphs.
The arbitrator analyzes the information received and makes decisions on the purchase or sale of cryptocurrency. Operations must be performed manually.
Paid scanners provide maximum efficiency; they provide the most accurate information without delays.
Programs for comparing rates
Such programs also compare quotes of selected assets on different cryptocurrency exchanges, but they need to be downloaded to a computer or mobile device.
The basic functions of such software may vary:
comparison of the cost of all digital assets on selected platforms;
analysis of the value of selected coins on all exchanges.
A trader can customize such software according to his preferences by selecting the desired cryptocurrencies and exchanges to track.
Bots for arbitrage
Unlike programs for obtaining reference information, a trading bot fully automates inter-exchange and intra-exchange transactions.
Such programs can independently perform all the necessary actions:
analyze quotes on exchanges around the clock according to the established settings;
look for spreads that allow you to make a profit;
eliminate the problem of the human factor, acting strictly according to the algorithm;
quickly enter into transactions when a favorable market situation arises.
Many paid arbitrage bots have a demo version that allows you to evaluate their quality.