Arbitrage trading is a de facto risk-free way of earning income from the price difference of at least two assets that are identical or similar in certain characteristics.
The topic of arbitrage trading attracts, first of all, the largest institutional players in the market. In modern realities, arbitrage is the most powerful algorithmic trading systems of large banks and hedge funds with which a person is practically unable to compete.
But still there are some methods and markets where you can successfully practice "manual" arbitrage trading for an ordinary trader who does not have a team of programmers and huge capital behind his back.
There are quite a few types of arbitrage transactions, but in this article we will talk about statistical and intermarket arbitrage, because these methods are the simplest and most readily available if you are not an institutional trader.
Intermarket Arbitration
This trading style implies the conclusion of multidirectional deals on the same instrument in different markets, provided there is a sufficiently large difference in price.
In simple terms, to conduct such a transaction, you must buy, for example, bitcoin on exchange A for $ 14,500 and transfer it to exchange B as quickly as possible with its subsequent sale for $ 14,800, if you do everything correctly, you will theoretically get $ 300 instantly profits from one bitcoin. The next logical step is to withdraw money from Exchange B and repeat the process until the rate levels off and the arbitrage opportunity disappears.
This process is called an arbitration circle. But there are some pitfalls here. Do not forget about the exchange commissions, as well as the Bitcoin commission network, which can “gnaw” all your profits from an arbitrage transaction, so after you notice an attractive arbitrage opportunity at first glance, first calculate all the commissions that you will need to pay for the arbitration circle.
Almost all instruments that are available on at least two exchange markets that you have access to can be used for arbitrage. It was not by chance that I cited bitcoin as an example of an arbitrage tool, since I think that the cryptocurrency market is now practically without competition and is available for "manual" arbitrage. It certainly does not abound with opportunities on every corner, but there are opportunities, which cannot be said about the stock market. On it (on the fund), there is currently a struggle between arbitrage trading algorithms, which almost instantly detect and use arbitrage opportunities, thereby eliminating them without even allowing the human eye to notice them.
Statistical arbitration
This type of arbitrage transactions, unlike the previous one, does not provide for trading on different stock exchanges. Its essence lies in the conclusion of multidirectional transactions of two or more statistically or fundamentally similar assets. In the stock markets, this type of arbitrage is handled by a certain category of hedge funds that specialize in the so-called Stat Arb.
Ordinary retail traders have only the opportunity to engage in pair trading, which is the basic principle of all algorithmic systems working in this direction.
As you might have guessed, the essence of pair trading is to trade a pair of instruments at once similar in certain characteristics in different directions. A good place for pair trading is the American stock market — NYSE, NASDAQ, AMEX.
To search for an arbitrage pair in this market, you can take stocks from one economic sector and look inside it for stocks of companies that are doing about the same thing. After a list of stocks by sector has already been formed, you can check their statistical correlation, which shows how much the charts of the shares of two companies are historically similar to each other.
How to earn on arbitration
To make significant profit as a result of cryptocurrency arbitrage, it is necessary to operate with large assets, take into account the speed of transaction processing, repeat purchase and sale cycles many times and not neglect automation where possible.
The secret of the most profitable transactions is to accurately determine the moment when the difference in rates has reached the greatest value. Taking into account the fact that the costs of paying off commissions can reach 5% of the amount of assets, in order to make a profitable transaction, a difference in rates equal to 5-8% is required. In the case of static arbitrage, when a trader compares changes between two currency pairs with one common denominator, a difference of at least 5% is considered profitable.
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