What is Arbitrage Trading in Cryptocurrency

How Does Arbitrage Trading Work

Arbitrage trading is a trading strategy where the trader capitalizes on the price of assets and commodities between different markets or exchanges. Arbitrage trading involves buying an undervalued asset in one market and then selling it in another market where it has a higher value, making a profit from the difference in price along the way.

Arbitrage trading is typically achieved using bots, algorithms, and/or high-frequency trading tools that are able to help identify and take advantage of these price discrepancies as quickly as possible. With the onset of Artificial Intelligence (AI) and Decentralized Finance (DeFi), the possibilities have become more efficient and proliferated.

What is also great is that arbitrage trading is a high-frequency, low-risk strategy. If a trader can execute their transactions quickly and accurately, they won’t be exposed to market volatility. This gives traders a low-risk, low-friction, but highly sophisticated avenue to capitalize on price differences across multiple markets.

Let’s take Bitcoin as an example. If the price of Bitcoin is $50,000 on Exchange A and $51,000 on Exchange B, a savvy trader can buy Bitcoin on the first exchange and sell it on the second exchange, earning a profit of $1,000.

FTX infamously made millions on Bitcoin arbitrage trading by taking advantage of the Kimchi Premium. The Kimchi Premium was a phenomenon where the price of Bitcoin and other cryptocurrencies in South Korea was significantly higher than in other countries due to a combination of strong demand in the country and limitations placed by the government.

Arbitrage trading is not only limited to cryptocurrencies and decentralized finance. The strategy can also be applied to traditional assets such as stocks, commodities, and currencies using modern tools. However, the execution can be challenging since the price differences are so minute and ephemeral.