Arbitrage is the practice of purchasing an asset in one market at a low price and then selling it in another por a higher price.
Crypto arbitrage has been around since cryptocurrency emerged in 2009. Yet, there are still many people who do not understand exactly what it is or how it works. Crypto arbitrage is nothing new. It existed in forex and equities markets before it came to crypto. As soon as crypto trading began, so did crypto arbitrage opportunities.
Due to a variety of factors, such as varying degrees of access to information among market participants, different trading methods and strategies, transaction costs, human psychology, and more, markets, such as stock and cryptocurrency exchanges, are inherently inefficient. These inefficiencies frequently result in price differences between markets for the same asset — for example, a cryptocurrency.
In most cases, market inefficiencies are the primary cause of arbitrage. Arbitrageurs profit from this by improving market efficiency by ensuring that the same asset is priced equally across exchanges. Arbitrageurs reduce the “spread” between these exchanges by buying on the cheaper one and selling on the more expensive one, limiting the chance for arbitrage and making markets more efficient. Arbitrage is an important force because it ensures that no assets deviate from their fair value for long periods of time and improves liquidity flow between exchanges.
The arbitrageur takes little to no price risk on the strategy because of the way it is implemented (buying and selling the same quantity on different exchanges). However, arbitrage carries risk, which stems from the need to execute the strategy almost instantly and the high cost of trade (commissions). Arbitrageurs typically pay a lot in commissions because each unit of trade allows the trader to pay the various exchanges on which he or she is trading.