Author Mary Ann Callahan of the CEX.IO cryptocurrency exchange explains how to use Bitcoin Arbitrage to generate profits by leveraging different prices on different exchanges.
No preface, just straight to the point: Bitcoin is a highly volatile currency. BTC to USD rate, at times, can gallop like a horse on the race. That's why some people consider Bitcoin a non-stable currency and prefer to stay away from it.
While these conservative folks buy their morning coffee for the same stable dollar price, others use Bitcoin's volatility in all kinds of ways to make a profit. They take advantage of every situation, no matter whether the price is falling or rising.
Although it may sound too good to be true, making money with Bitcoin may be easier than you think. You just need to know the methods and approaches. Bitcoin arbitrage is one strategy, so let's take a closer look.
What Is Arbitrage
Through the lens of economics, arbitrage is a term that denotes the practice of gaining profit at the expense of the price difference of separate markets. In the cryptocurrency world, it means that if I see that the Bitcoin price on one online exchange is, let's say, $4200 per BTC, and $4500 on another exchange, I can buy a Bitcoin from the first exchange and sell it through the other, making a profit of $300.
Although this is the main idea of how things work and how people make money with Bitcoin arbitrage, of course it's not as easy as in this example. There are several other factors such as the buy/sell difference, fees, and time after which the prices can converge in the two exchanges. But first, let's figure out why Bitcoin arbitrage is much more profitable than the fiat one.
There are two major reasons for different price bids among Bitcoin exchanges:
1. A vote of confidence in a particular exchange. We always pay more money to those who are more reliable and can provide better safety. That's why less reputable exchanges have more attractive prices.
2. Unstable situation. Since Bitcoin is volatile, it makes exchanges lay down different conditions on the use of their services. Every exchange has its funds and conducts certain financial operations to increase them. So, if in a certain period of time, it is profitable for an exchange to obtain Bitcoins, they will set attractive "Sell" prices for the customer, while other exchanges may be offering a more moderate price.
Bitcoin Arbitrage in Use
Let's take a look at a step-by-step example in plain language. The numbers are fictional, but the exchange rates are current as of September 11, 2017.
Basically there are three major steps that contain smaller ones:
1. Fund the account of the exchange A; then exchange fiat to Bitcoin.
2. Transfer Bitcoins from exchange A to exchange B; then exchange Bitcoin to fiat.
3. Withdraw the funds into your bank account.
A Concrete Example
Now let's go through these steps again using concrete numbers and definite exchanges like BitStamp and CEX.IO. We will also conduct the operations gradually in order to avoid risks and gain profits.
1. Fund the account with $8364 on BitStamp.
a. Exchange only the half of your money, so $4182 will bring you 1BTC.
2. Transfer BTC to CEX.IO account.
a. Exchange 1BTC into fiat. According to CEX.IO rates, you'll have $4466.
3. Withdraw the funds into your bank account.
4. Fund the account of Bitstamp (again), but now with $4466.
a. Now this account holds 4466 + 4182 = $8648. You, again, exchange only the half of your funds, so $4324 into BTC.
5. Transfer BTC to CEX.IO
a. Exchange BTC to fiat.
6. Withdraw the funds.
7. Repeat the cycle again and again.
Basically, that's it. Now let's make it clear, why do you need to make these operations gradually and not exchange the whole sum of money at once?
Firstly, you avoid risks in case Bitcoin rate decreases strongly. Secondly, you need to know that one arbitrage operation by itself won't bring you an essential income, even if the price gap between the two exchanges is vast. At some point, you can even lose some part of your money, but it's like they say: it's losing the battle, not the war.
That means that eventually your capital will increase, but still there are few risks you need to be aware of:
1. Buy/Sell. You should do arbitrage only when the selling price of one exchange is higher than the buying price of another. While this may sound obvious, you should be careful while going through the arbitration "cycle."
2. Fees. Of course, you should always pay attention to all the fees. And sometimes your profit will turn out to be smaller than you have expected. That doesn't mean that you shouldn't do the arbitrage. As we alluded earlier, one arbitrage operation won't bring you high income, but if performed cyclically, it promises very good profits.
3. International prices. In certain periods, different countries have different Bitcoin prices. For example, an American exchange may offer 1BTC for $4100, while in Korea it can even gain a price of $4600. But the thing is that the Korean price is based on the state of their own currency (WON). Basically, the Korean price is the amount of their Wons that are equal to $4600. So, being not in Korea, it is impossible to buy Bitcoins for their price. (Even if it were possible, it's not really legal.)
Friendly Word of Advice
These are the major risks you should be familiar with. The last thing you are going to discover in this article are some tips that will help you find arbitrage opportunities:
1. Know the ropes in Bitcoin. Arbitrage requires good knowledge of the sphere it is applied in, so you should really know how things work, be well-informed in cryptocurrency and Bitcoin itself.
2. Monitor the market. Bitcoin calls for good reaction and fast decisions, so you should monitor the market all the time even if you don't have your PC or tablet with you. Thankfully there are plenty of different mobile apps that can help you with it.
3. Always be charged and ready. Although the registration process is very easy and fast, it still requires some time, as well as funding your account. On average, it takes 2 days. So if you are getting into arbitrage, be sure that you are set-up with various accounts and you have some money funded in them.
As mentioned at the very beginning of this article, there are plenty of ways -- or better to say "methods" -- of making money with Bitcoin. Arbitrage is one of them and, although some people find it difficult, success is attainable.
The last tip is this: If you decide to try Bitcoin arbitrage, do not rush after money when you begin. Instead, try it through investing a small amount. Only when you know how things work should you invest more and then be able to gain considerable profit from it.
Author Mary Ann Callahan covers bitcoin-related topics for the CEX.IO cryptocurrency exchange, focusing on topics such as blockchain security, bitcoin purchasing, and bitcoin regulations in different countries.