How to Make Money with Crypto Arbitrage
Continuing the series of articles exploring a few unconventional methods of earning profits with cryptocurrencies, today’s topic is Arbitrage.
Have you ever noticed that prices for cryptos are not always the same from one exchange to the next? Have you then went on to think, “I wonder if I can buy that coin on this exchange for less, then transfer it to that exchange and sell it for more?”. If you have ever had that thought then Congratulations, you discovered Arbitrage!
Arbitrage is a chain of transactions whose purpose is to make a profit on the difference in crypto prices on different exchanges. In other words, we buy for less in one place then sell for more in another place. The main thing is not to confuse yourself with all the movement of funds.
The most common reason for the difference in price is a lack of liquidity on one exchange vs another. Let’s see how this plays out in real life.
Sam has a large amount of an Alt-Coin called WTC that he has to sell immediately. Sam does all his trading on Exchange A so he put all his WTC coins for sale at “Market” price and hits the “Sell” button. This initiates a price dump on Exchange A due to the low volume / low demand of Alt-Coin WTC.
Alternatively, Sam may list his WTC at a specific price which creates a “Sell-Wall”. The sight of a sell-wall tends to cause panic with many traders who then react by dumping their WTC below the price of the sell-wall price. This proceeds to cause a chain reaction of panic selling resulting in a significant price dump on Exchange A and only on Exchange A.
This is the perfect example of a great opportunity for an Arbitrage move! As traders on Exchange A notice the dump was an isolated incident, they “buy the dip” all the way back up to the correct price.
With any low volume coin, a single large transaction can cause the price of that coin to drastically drop only on the selling exchange while remaining completely unaffected on the 10 other exchanges it’s listed on.
Another common cause of Arbitrage is Isolation. Let’s look at an example of this as well. In December 2017 when Bitcoin was worth $ 20,000 to most of the world, in Zimbabwe, the cost exceeded $ 26,000. This was a 30% difference! The problem with this instance of isolation is that only residents of Zimbabwe could sell bitcoin for $26,000. Zimbabwean Golix exchange was the only exchange operating inside Zimbabwe at the time. To use the exchange, traders had to register using their Zimbabwean passport for verification. No Zimbabwe passport, no access to Zimbabwean Golix exchange.
Finally, the most controversial form of arbitrage is the manipulation of the price of a cryptocurrency by parties of an exchange resulting in the price of that cryptocurrency to post artificially high or look underestimated.
For example, in January 2018 EXMO artificially posted the price of XRP at $3.50 even though the price was around $ 2.50 on nearly every other exchange around the world.
Interestingly, this huge spread lasted a relatively long time. This allowed many market participants, even those who don’t practice arbitrage-trading, to buy XRP on other exchanges and sell it on EXMO making nice profits each time.
How to Make Money on Arbitrage
The algorithm is quite simple:
- We are looking for cryptocurrencies with different prices on different platforms.
- We buy a coin on the exchange which offers the lowest price.
- We transfer the purchased coins to the exchange with the highest price.
- We sell and make a profit.
In theory, this is all quite simple. In reality, like all trading, arbitrage is quite a risky activity. Here is a short list of things to be aware of:
- Commissions — Most exchanges charge fees for buying/selling or withdrawing cryptocurrencies. This factor must be taken into account.
- Change in Price — The time it takes your funds to be sent from one exchange to the next can take seconds, minutes or even hours. The longer it takes, the more risk there is that the price can go down before you sell it.
- Temporary Ban on Withdrawals of the Crypto — If an exchange recognizes possible manipulation of a cryptocurrency or a large price difference between exchanges, it can prohibit deposit and withdrawal of funds and it can suspend trading. In this case, you run the risk of being left with a crypto whose price is rapidly falling on other exchanges and there is nothing you can do about it.
Today there are special bots that calculate all the prices and commissions; make the transactions and transfer the funds between exchanges. And on very special and rare occasions, the bot will find your next XRP for $ 3.5 and BTC for $ 26,000 which makes the hunt, all the more fun.