What is Arbitraging? How is it Applicable to Cryptocurrency Investing?

Cryptocurrencies are considered to be the future of Economy and in the case of the Bitcoin, the inherently popular cryptocoin is sitting on the throne as the world’s most dominant cryptocurrency. It is no surprise however that a lot of the investment techniques used to make a profit from cryptocurrencies find their roots in traditional economies and the stock market.

Cryptocurrency exchanges operate as “stock markets” in which tokens, coins or digital assets are exchanges between buyers and sellers in an attempt to increase the value of their portfolio and gains. Additionally, all these crypto markets, not only solidify Bitcoin’s place in the world as a legitimate currency, but they also bring the possibility of arbitrage.

What is Arbitrage?

Arbitrage is a word that tends to be thrown around in the hectic world of investors and stock brokers. It can be defined as the almost simultaneous buying and selling of an asset, during a time when you can exploit the currency differentiation between markets.

For example, let’s say that Coca-Cola (KO) is trading in the New York Stock Exchange (NYSE) for $35.56 and at the same time, KO is trading for $37.56 in the London Stock Exchange Group (LSE). While there is only $2 in price differentiation, this allows for arbitrage. Meaning that with this $2 price differentiation you can purchase 1 stake of KO for $35.56 and then sell it on the LSE for $37.56. Therefore, this small trade will give you a two dollar profit.

This process happens very quickly. It can be conceived as an easy profit coming from the gaps between national stock exchange groups that only last for finite amounts of time. However arbitraging requires skill, speed and luck, therefore it is not a recommended technique for most investors.

But how does Arbitrage Apply to Bitcoin?

Well, as many cryptocurrency enthusiasts know, there are many different currencies involved in the crypto world. Take the example I laid out above, and swap out stocks, for cryptocurrencies purchased in different national currencies.

Let’s say you were to buy one Bitcoin on Coinbase for $7,261. Not long after you purchased your Bitcoin, you notice that it is being sold for $7,500 on Kraken which is a leading Euro crypto exchange. The next logical step would be to take that Bitcoin you bought for $7,261 on Coinbase, and sell it on Kraken for $7,500, making a rough $250 profit.

So Where do Price Inadequacies Stem from?

In fact, Kraken exchange mainly deals in Euro, while Coinbase mostly deals in USD. Thus, since both Coinbase and Kraken cater to different currencies, there are always small inadequacies between currency exchanges. So it’s reasonable for someone who bought their Bitcoin in Euros to be paying either a slightly higher or a somewhat lower cost compared to someone who bought their Bitcoin in USD.

The price inadequacies and therefore, arbitrage in the crypto world mostly stems from the original currency price that Bitcoin was initially purchased at. Given that cryptocurrency is bought and sold with tangible money and meant to be used worldwide, people purchase and sell crypto in various currencies. So, a US citizen might have purchased their Bitcoin for $7,261, while someone in London might have paid £5198.88 for their Bitcoin. While the price is technically the same, national currencies tend to increase or decrease in value. Therefore, the Bitcoin of £5198.88 could be worth $7,300 on its respective exchange instead of $7,261 when purchased.

With the original definition of arbitrage being to take advantage of price differentiation in national currencies and given that people purchase their cryptocurrencies in their respective national currencies, arbitrage easily finds its way into the Bitcoin world.

Some people might see it as a way to make money quickly but they have to keep in mind that these price inadequacies do not last long. In fact, in order to make a profit using arbitrage, you will need to be skilled in the world of stocks and well versed in cryptocurrencies and national currencies around the world.

Another crucial factor to be taken into account is the cost of fees involved in transacting on cryptocurrency exchanges. Often the potential profit that could be made can be eaten up in fees or even turned into a loss.

Arbitraging is not for the faint of heart and unquestionably not for beginners.

Disclaimer: This article should not be used as investment advice or financial trading advice. Please conduct careful due diligence before investing in any digital asset.

Share
Published by
Team Tokens 24

This website uses cookies.