A Guide to Crypto Arbitrage Trading

In this essential guide to crypto arbitrage trading, we explore the most important factors to consider before you try it for the first time.

  1. What is Cryptocurrency Arbitrage?

  2. What is an Order Book?

  3. The Cryptocurrency Trading Arbitrage Process Step by Step

  4. Finding Opportunities for Cryptocurrency Arbitrage

  5. Understanding Simple and Triangular Types of Arbitrage

  6. Statistical Arbitrage Explained

  7. What are the Top Exchanges for Crypto Arbitrage?

  8. Fees Involved with Cryptocurrency Arbitrage

  9. Robots and Software for Cryptocurrency Arbitrage Trading

  10. A Guide to Arbitrage with Bitcoin

  11. Essential Terms

  12. Conclusion

  13. Frequently Asked Questions

 

Crypto arbitrage offers traders a fairly low-risk way to conduct trades online, and it’s quite straightforward too.

If you’re considering trying crypto arbitrage trading, you’ll be relieved to know plenty of software and bots have been created to help make the process easier. But it can still be daunting for newcomers — which is why we’ve written this comprehensive guide to help you get started.

What is Cryptocurrency Arbitrage?

Crypto arbitrage revolves around taking advantage of market inefficiencies to make money. Here’s how it works.

If an asset has different prices across multiple exchanges, traders can benefit from purchasing and selling said asset on different markets. That variation between rates will bring traders a profit.

This technique is effective for any security which has varied prices on a minimum of two exchanges, though cryptocurrency arbitrage can also be utilized in the same exchange. Arbitrage may be leveraged for profiting from metals, international currencies, and more.

What is an Order Book?

A key component of asset arbitrage is an exchange order book: a manual or automated list of current sell and buy orders for a specific asset. It includes four key terms you need to know about: bid; ask; amount; price.

What do these mean? The amount and price elements present the number of units that will be traded at a specified cost. Regardless of the exchange platform you use for your trading, you’ll always find bid and ask orders have two sides. These are implemented to assess the interest in sell/buy positions of a specific crypto.

Bids represent buy orders, the amount, and the price a trader is looking to purchase them at. The ask side displays sell orders.

This trading approach is far from complicated when you first start using it for yourself, but there are some things you need to know.

The Cryptocurrency Trading Arbitrage Process Step by Step

Here’s a step-by-step guide to the crypto arbitrage trading process:

Step 1: Decide which cryptocurrency you’re going to use — it should be traded on a minimum of two exchanges; you can undertake arbitrage on one exchange, but it’s generally simpler to go for two different ones

Step 2: Collect the order books from the two platforms, to assess traders’ interest

Step 3: Look at the crypto arbitrage opportunities presented by both of the exchanges to pinpoint the ideal correlation between the two

Step 4: Purchase the asset with the lowest price available on the exchange

Step 5: Withdraw the cryptocurrency asset to the second of the two exchanges you’re using

Step 6: Sell the crypto on this second exchange

Step 7: Keep purchasing and selling until the correlation you selected ends

Finding Opportunities for Cryptocurrency Arbitrage

While crypto arbitrage has changed in a substantial way, it still offers traders an opportunity to generate real profits — when you apply it properly.

The amount of money you make will be affected by the number of orders you decide to place: estimations suggest a single trade on Binance and Kraken could lead to a $15 profit (on average). At the moment, you can expect to see a spread of between 0.2 and 2.5 percent. This could bring a benefit of around $10 to $50.

So, let’s say you receive $15 on average — you could earn as much as $150 each day if you were fortunate enough to find a crypto presenting a generous amount of opportunities.

Take advantage of 3Commas bot to help make your trades quicker and more profitable for you. This has been in collaboration with Binance and offers support for an extensive variety of exchanges. 3Commas bot also delivers a number of services, including automated bots, analytics, monitoring other users’ portfolios, and back-testing of portfolios.

Understanding Simple and Triangular Types of Arbitrage

Numerous types of cryptocurrency arbitrage can be utilized, with Simple and Triangular being the most common.

Simple

With the Simple method of crypto arbitrage, you purchase and sell a single currency across two exchange platforms. But with Triangular, you need to work with three cryptos on a single exchange instead. Regardless, many traders find the Simple option more accessible than the Triangular type.

Triangular

Triangular arbitrage (AKA “cross-currency arbitrage” or “three-point arbitrage”) may be undertaken on just one exchange or multiple. As you might assume from the Triangular name, this type includes three assets — all of which are connected.

The core concept is simple: trade the first crypto to the second, the second to the third, and the third to the first. For example, you might start with Bitcoin, trade that to Binance Coin, and trade that to Ethereum, before trading that to Bitcoin.

Follow these five steps when trying Triangular arbitrage:

Step 1: Choose three assets you believe can be arbitraged easily

Step 2: Pick the crypto you want to end up with after the trade

Step 3: Trade this to a second cryptocurrency asset, which should connect to the first and third

Step 4: Trade the second crypto to the third

Step 5: Convert the third cryptocurrency to the first

The key benefit here is that traders earn a risk-free profit as soon as they fulfil the second trade. But this arbitrage type is very uncommon and it’s not as simple as most traders might like. That’s why they typically prefer to use software and bots instead of taking a manual approach. Crucially, your capital should be big enough to allow you to deal with three cryptos.

Statistical Arbitrage Explained

Statistical arbitrage is the most complex type, involving a wealth of calculations and solid analytical capabilities. This is why traders tend to use bots designed to provide all the calculations required.

With statistical arbitrage trading, traders open short and long positions simultaneously. This type offers a level of risk as it relies on historical prices, though prices are never repeated with total accuracy.

The majority of statistical arbitrage trades involve mean-reversion models, in which traders invest in portfolios that are highly diversified, with plenty of securities (amounting to thousands). This is a form of short-term financing ranging from mere seconds to multiple days.

The core of a mean-reverting relationship between two cryptos is the cointegration approach — here’s an example to illustrate it a little bit better.

Let’s say we have a woman and a dog walking together at the same time. While their paths are unpredictable, if the dog belongs to the woman, they’ll move randomly but within a short range of one another.

So, some pairs are based on a mean-reverting relationship, such as Ethereum and Ethereum Classic. The latter was formed via an Ethereum fork, and while they’re separate assets, Ethereum Classic is ultimately just derived from Ethereum.

Monero and Zcash is a similar example: they’re based on the same idea of facilitating anonymous transactions. Neither of them were offered through ICO, while Monero and Zcash both include quality privacy features.

What are the Top Exchanges for Crypto Arbitrage?

Even though you know how crypto arbitrage trading works, you still have another critical point to consider: choosing a crypto exchange you can rely on.

There are certain major features that the most trustworthy exchanges share. First of all, they’re experienced, with several years of operating on the market behind them. Low fees are another essential feature — if your exchange charges you massive fees, they’ll eat into your gains significantly.

Next, any crypto exchange you choose should take security seriously, implementing the latest measures. Look into hack attacks on any exchange you’re considering to determine how secure its service is.

Never rely on an exchange’s prices, even if you find a low-cost option. It could cost your entire capital. Make sure you check out reviews written by other users.

Numerous exchanges are known to be dependable. The three most well-known options are Binance, Coinbase, and Bitfinex. Let’s take a closer look at each one.

Binance is the most famous of all cryptocurrency exchanges, known for charging fairly small fees and offering impressive security for conducting trades. This operates globally, which demonstrates its reliability and trustworthy performance.

Coinbase enables users to buy and sell cryptos securely. It delivers high-security operations to ensure traders’ funds remain protected at all times.

Bitfinex is recognized for its user-friendly interface and round-the-clock support for users. The app’s interface is easy to customize, and there’s a demo account you can try for testing strategies. Price and trade volumes for coins are available on the Bitfinex website.

Fees Involved with Cryptocurrency Arbitrage

A lot of newcomers to the world of trading only focus on the profit they’ll earn from making successful trades. But they lose sight of the fees they’ll have to factor into their trading. These can consume a large portion of gains before you even notice.

Fiat fee for Deposits and Withdrawals

This is the most common fee charged on the crypto market, imposed by exchanges when you choose to deposit or withdraw any funds to your bank account or credit card. It’s unlikely you’ll find an exchange that imposes no fee for fiat deposits and withdrawals, so concentrate on finding the lowest fee you can.

The fee’s size depends on the method of payment you want to use. Transactions via credit card are usually processed immediately, but the cost is often high. Wire transfer is available at plenty of exchanges and brokers: while this is a little slower, the associated fee is smaller.

If you make a direct deposit, you’ll face the lowest fee, though the transaction time increases substantially.

Transaction Fees

Transaction fees come in three types: fixed fee, maker fee, taker fee.

Fixed fees don’t change regarding the volume, asset, and order books.

Taker fees are best if you’re aiming to execute a trade immediately.

But if market conditions fail to align with your expectations, you could be left waiting a while for the ideal match to come along. In this case, you would pay a maker fee exceeding the taker fee by two or three times the amount.

Crypto Deposits and Withdrawal Fees

Typically, crypto exchanges don’t charge users a fee if you deposit cryptos. But you will be expected to pay a fee if the exchange has to establish a new address for your chosen asset.

Withdrawal fees aren’t always present, and it varies depending on the exchange you choose to trade on. Some won’t charge this fee.

How can You Reduce Your Fees?

Here are some simple tips to help lower your fees:

  • Orders will be executed with no time lag if you find the ideal match between two assets, so you won’t be charged fees

  • Use crypto exchanges charging low or zero fees — just take the time to check the terms and conditions to make sure you won’t be hit with any fees

  • Certain exchanges won’t charge fees if you choose to withdraw coins, but they tend to apply fees if you withdraw fiat currency instead

  • The fee for credit cards is the biggest, so wire transfer may be a lower-cost option for you

  • You will have an opportunity to lower the fees you’ll be expected to pay if you start trading at a crypto exchange with the deposit transaction

Robots and Software for Cryptocurrency Arbitrage Trading

While cryptocurrency arbitrage may seem like a fairly straightforward deal, there are some potential drawbacks you need to consider. This is why even the most professional traders utilize robots and software for placing orders and finding perfect asset matches. There are plenty of software options available, which make traders’ work a lot simpler.

Understanding How Cryptocurrency Arbitrage Bots Work

Bots are designed to perform two key functions.

First of all, they’re capable of limiting the amount of work traders need to do, which can be tedious. This provides them with extra time to search for the right opportunity.

Secondly, bots are built to beat the market and gain profits on a regular basis. A cryptocurrency arbitrage bot is programmed to identify price mismatches across numerous markets and exchanges. They utilize varied strategies to serve a trader’s goals.

Explaining Cryptocurrency Arbitrage Software

Cryptocurrency arbitrage software is used most commonly to set up your trading strategy or bot, with no need for coding experience or skills. Strategies are built on specific indicators.

Crypto arbitrage software is usually a more complex tool for undertaking arbitrage than bots, as bots are simply part of them.

Can you Utilize Automated Cryptocurrency Arbitrage?

Automated arbitrage is increasingly popular, due to the higher accuracy it offers and the time it can save, assuming all settings are correct.

Many robots and platforms provide trading signals or execute trades under certain conditions. But traders can utilize personal Expert Advisors if they have experience of coding.

Platform and Monitor Software for Cryptocurrency Arbitrage

Traders use the crypto arbitrage platform and monitor software to identify crypto arbitrage opportunities between cryptos, altcoins, and exchanges in real-time. They’re also ideal for supporting the usage of various strategies and liquidity management. They help traders keep track of market conditions using a single app.

Arbitrage platforms are designed to connect buyers to sellers, and provide trading across multiple exchanges. They typically differ and involve a wide range of payment methods. A number of platforms also present multiple ways to gain rewards, such as Paxful, which provides a premium on certain payment options.

You can conduct cryptocurrency arbitrage in different countries’ markets — if you were to sell Bitcoin, you could discover a market where it’s harder to buy and, as a result, the price would be higher.

Another example is 3Commas, a trading terminal with bots providing a number of instruments to facilitate successful trades.

A Guide to Arbitrage with Bitcoin

Below, we’ll explore how to arbitrage Bitcoin (BTC).

The Simple Approach

In this example, we’ll look at Bitstamp and Coinbase.

If Bitcoin’s price on Bitstamp was $9224.13 and $8165.15 on Coinbase, that makes a difference of more than $1000.

If you were to buy 100 Bitcoins via Bitstamp for $8165.15, you would be spending $816,150. You would transfer the coins to Coinbase and sell the 100 Bitcoins for $9224.13 — generating earnings of $924,130.

So, if you take $816,150 away from $924,130, you would have a profit of $107,980.

Still, you need to remember that you will face fees for deposits and withdrawals.

The Triangular Approach

In this example, we’ll imagine you’re trading on a single exchange with Bitcoin, Ethereum, and Binance Coin. Triangular trading’s main concept is that you would end with the crypto that you began with.

So, you trade Bitcoin, but to work out the profit you could expect from Triangular arbitrage, you would have to calculate the bid and find the prices for each pair. We’ll say the exchange rate for the Bitcoin/Binance Coin is 462,963, while Bitcoin/Ethereum’s is 48,9809, and Ethereum to USDT is 148,94 (as we have no exchange rate for the Binance Coin/Ethereum pair).

You’ll exchange one Bitcoin to Ethereum with a bid price amounting to 48.809. You would then exchange the result to USDT and Binance Coin, before exchanging Binance Coin to Bitcoin. This would lead to a profit of almost 2.5 percent.

Using a Calculator for Crypto Arbitrage Trading

So, we’ve looked at simple calculations with no fees included. But you need to bear in mind that fees will reduce your profits substantially, so it’s best to leverage platforms or software capable of calculating your operations with total accuracy.

Essential Terms

You need to know the following terms when trying crypto arbitrage trading:

Crypto asset: This is a digital asset designed to be a decentralized payment method, recorded in the blockchain. There are four types of asset: a cryptocurrency; utility tokens; transactional tokens; and platform tokens.

Volatility: This relates to fluctuations in price: high volatility applies to major market fluctuations triggered by unforeseen events; low volatility relates to small price changes because of a lack of interest.

Fiat: Fiat funds are standard money issued by countries’ governments, including the Euro and GBP.

Deposit: Related to the amount of money you’re willing to put into your account to buy a security.

Withdrawal: The amount you take out of your account following successful trades.

Order book: This is a ledger combining crucial information relating to current buy and sell orders helping traders decide their actions.

Conclusion

If you want to generate profits from the cryptocurrency market, you’ll probably find crypto arbitrage a terrific option. It’s a legal way to make money, while software and bots help to simplify the process. While it’s not complicated, there are a number of drawbacks to consider before you try it for yourself.

Here are the benefits and risks to think about:

Pros:

  • Low risk: Crypto arbitrage is a fairly low-risk option for trading, creating the potential for amazing rewards for those who can use it properly

  • Good variety of exchanges: Plenty of exchanges are available, offering terrific opportunities to try arbitrage trading

  • High volatility: While high volatility can be a danger, it can create great opportunities if you know how to utilize it; the crypto market is regarded as one of the most volatile

Cons:

  • KYC: “Know Your Customer” regulations mean newcomers to crypto exchanges may be waiting several days for their account to be validated and funds become available for withdrawal; that’s why you should make a few transactions before you try arbitrage trading

  • Hacking risk: Crypto exchanges can be targeted by hackers, so there’s a real risk of losing money if this happens

  • Fees: You need to be aware of potential time lag that takes place from the time you start withdrawing funds to the time they become available in your second account to complete the arbitrage process

  • The need for big trades: No matter the market you choose to trade in, only large capital will lead to substantial rewards; bear withdrawal fees in mind if you undertake cryptocurrency arbitrage across a number of exchanges

  • Too quick: A lot of traders struggle to succeed with crypto arbitrage as it demands a lot of time for analyzing the market and finding the ideal opportunity

  • Limits on withdrawals: Check terms and conditions before you try crypto arbitrage — you won’t succeed if the exchange has a limited withdrawal amount

Frequently Asked Questions

Q: Is it legal to try cryptocurrency arbitrage?

A: Yes, it’s completely legal. The core concept is that the trader purchases and sells an asset, just like any other type of security in a market.

Q: Can you make profits from crypto arbitrage in 2020?

A: Yes, it’s still a profitable operation. Kraken and Binance trade calculations suggest you can earn a minimum of $15 per trade. So, the amount you get depends on the crypto arbitrage opportunities presented by an exchange. The markets have become more stable and exchanges more reliable as cryptocurrencies have continued to gain increased traction globally.

Q: Can you undertake cryptocurrency arbitrage on a single exchange?

A: Yes, you can undertake arbitrage on one exchange or by transferring money between a number of them.

Q: What are the top cryptocurrency arbitrage pairs in 2020?

A: With Bitcoin being one of the top cryptos, you should look for ones that are paired with it, such as Bitcoin/Litecoin or Ethereum/Bitcoin.

That brings our guide to crypto arbitrage trading to a close! Thanks for reading, and good luck.