Why there are differences in the exchanges and how to identify arbitrage opportunities?

(29th-December-2019)

Here are few ideas:

1. Liquidity (see example above): difference in the trading volumes at different exchanges, meaning difference in supply and demand, affects the prices. On the established exchanges prices fluctuate less than on the smaller or new ones.

2. Geography (while something can happen in the morning in Europe, that influences prices, the most of people in US are still sleeping, hence the price difference due to the geography)

3. Listings (price difference when a crypto coin gets listed in one of the major exchanges).

Arbitrage within an exchange

Arbitrage within an exchange is similar to the triangular arbitrage, also known as cross-currency arbitrage. The step-by-step process is then as follows:

1. Start with deposit of some amount of fiat on an exchange

2. Buy cryptocurrency 1

3. Sell cryptocurrency 1 and buy cryptocurrency 2

4. Repeat steps 2 and 3

5. Sell cryptocurrency 2 for fiat

6. Withdraw the profit

You could substitute fiat with yet another cryptocurrency, or repeat step 2 many times with different cryptocurrencies. In the last case, it will be not a triangular arbitrage, but polygonal arbitrage.

By staying within an exchange and applying the same process over and over again to different cryptocurrencies, the major fee (withdrawal of cryptocurrency) is eliminated.

The catch in this case though is that the opportunity is less obvious than in case of arbitrage between exchanges.

Here is an example of triangular arbitrage. Let’s say that you have deposited some funds to an exchange and bought USDT, which you might consider a crypto equivalent of USD. You want to buy 1 Bitcoin (BTC). Of course you could buy 1 BTC for 6527.06 USDT (on 20th of August 2018, 04:26 CET).

Or you could use the triangular arbitrage strategy:

1. Buy Ethereum or ETH for USDT, 1 ETH = 302.15 USDT

2. Buy BTC for ETH, 1 ETH = 0.04643 BTC, or 1 BTC = 21.5378 ETH

Then your BTC would cost 21.5378*302.15 = 6507.64 USDT.

That means, to buy BTC via ETH you saved 19,41 USDT, which is about 0.3% of the Bitcoin price. If you sell immediately 1 BTC for 6527.06 USDT, you will make 0.3% profit of these 2 transactions.