Fast and efficient payment methods, borderless money transfers, and investments are among the most popular reasons for using cryptocurrencies, most notably Bitcoin (BTC), which is found to be superior among the thousands of other digital currencies available in the market today. Bitcoin became widespread in the finance and technology industry for speculative investment, where one attempt to profit from market value changes. Apart from bitcoin investment, did you know that there is another unique money-making approach to try using BTC? This strategy is called arbitrage trading, or in this context, bitcoin arbitrage trading.
Defining arbitrage trading
Arbitrage, according to Investopedia, is “the purchase and sale of an asset in order to profit from a difference in the asset’s price between markets.” In essence, it’s buying an item from a particular market and then immediately selling it in another market that accepts it, but at a higher price. The individuals who engage in this process, called arbitrageurs, earn profits through the difference in prices.
Let us state a practical example: you purchased a smartphone at 320 USD in one marketplace, and then you found another platform that sells it at much higher prices. So, you placed it on sale at 350 USD. In this example, the initial cost of the smartphone is 320 USD, and you sold it at 350 USD, the difference in prices—30 USD—is your profit from this arbitrage transaction.
Arbitrage trading in crypto space
In the world of cryptocurrencies, arbitrage trading became much talked about in 2018 because of the event called “Kimchi Premium.” This term refers to the “gap in cryptocurrency prices of South Korean exchanges for cryptocurrency assets such as Bitcoin, Ether (ETH), and Ripple (XRP), compared with foreign exchanges.”
On January 9, 2018, the price of BTC in South Korea was 43 percent higher than it was in the United States and other countries. Local and foreign traders and investors took advantage of this opportunity by buying bitcoin cheaply in South Korean exchanges and then selling it in marketplaces outside the country at a much higher price. This extreme price gap and inflation is a perfect example of bitcoin arbitrage trading.
Three crypto arbitrage methods
If you are interested in doing bitcoin arbitrage trading, there are three methods that you should be familiar with: the spatial, statistical, and cross-border.
- Spatial arbitrage. This is making a profit by exploiting the price differences of bitcoin or other digital currencies between two marketplaces.
- Cross-border arbitrage. This approach is similar to spatial arbitrage, but the crypto exchange platforms used to buy and sell BTC are located in different countries—like in the Kimchi Premium instance. However, it’s important to note that cross-border arbitrage can be difficult for some traders due to the regulatory requirements and crypto regulations issued by certain countries.
- Statistical arbitrage. This method, also known as stat arb, “is a computationally intensive approach to algorithmically trading financial market assets such as equities and commodities.” It involves “the simultaneous buying and selling of security portfolios according to predefined or adaptive statistical models.” Arb strat is also considered riskier compared to the other two as it uses algorithms and mathematical modeling in trading and is highly quantitative.
Things to consider before starting bitcoin arbitrage trading
Now that you already know what arbitrage is and its methods, let’s proceed to the important things to take note of before starting your first trading.
- Funds or resources. Of course, you will need funds that you will use for trading. It doesn’t have to be significant if you’re starting to learn and engage in bitcoin arbitrage trading. Another notable fact is that there is no minimum or maximum amount required for this approach. You are free to set how much funds you are willing to trade.
- Bitcoin or digital wallet. Once you have the funds, the next important thing to have is a bitcoin wallet (for BTC) or a digital wallet (for cryptocurrencies other than bitcoin). This is where you will store your crypto and check your running balance and transaction history, and most importantly, this is what you will use to send and receive funds for trading, so be sure to secure one.
- Verified and reliable crypto exchanges. There are hundreds of cryptocurrency marketplaces available today where you can buy bitcoin at lower rates, and it is crucial to evaluate and carefully look into exchanges before deciding to select them as your platform for arbitrage trading. Among the factors to consider are fees, reputation, geography, safety and security measures, and transaction history, to name some.
- Understanding the ins and outs of the process. Aside from the tools, you also need to be equipped with proper knowledge about doing arbitrage. It is essential to know and be familiar with the charts and market signals, market volatility, crypto policies and regulations in your country or jurisdiction, and cybersecurity news, among others.
Benefits and drawbacks of bitcoin arbitrage
Like any other income-generating approach, arbitrage trading in BTC also has its advantages and limitations. Among the perks of doing arbitrage include having a wide range of selection for crypto marketplaces and exchanges to do transactions. Bitcoin and other digital currencies are also known to be highly volatile assets, so there’s always a possibility of having price differences in various exchanges. Additionally, once you fully understand the process, and you already have the tools you need, you will be able to learn how to make quick profits potentially.
On the flip side, bitcoin arbitrage can also be tedious and daunting because of some notable factors like crypto laws and regulations in various jurisdictions, exchange fees, withdrawal limits, trade requirements, and transaction time in crypto marketplaces, to mention some.
The legality of crypto arbitrage
A lot of people might be asking whether bitcoin or cryptocurrency arbitrage trading is legal. The process only involves buying an asset in one platform at a lower price and then selling it in another marketplace at a higher price. This straightforward method does not violate or break any financial rules or regulations in most jurisdictions. However, it would be helpful to do your research on the countries where it is ideal to do arbitrage trading, as crypto regulations vary depending on the jurisdiction.
These are just some of the fundamental and most important things you should know about engaging in bitcoin arbitrage trading. Do your research and discover more helpful information and strategies that you think will best respond to your trading preferences and needs. It will be difficult in the beginning, but once you get comfortable with the entire operation, you’ll find yourself earning significant profits through this method.
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