Bitcoin Arbitrage. How to Earn from Spreads and Liquidity
Nowadays, Bitcoin does not appear to be as volatile a currency as it was before. However, its value can move up or down within a few minutes. Here, we will find out about Arbitrage, which is used by traders who want to earn money by taking advantage of the volatility between different Bitcoin exchanges.
What is Arbitrage?
Arbitrage is a way to earn profit from the difference in price between two markets. Usually, large exchanges have a lot of members or traders who can react quickly to any news related to their market. It is called ‘liquidity’ because, on such exchanges, any asset can be turned into cash and cash into an asset. There is always someone on this exchange who is waiting for an offer and is ready to deal. Well, not always, but often. There are also fewer liquid exchanges where there are less traders and at times, when you try to sell or buy an asset there, you need to wait for someone to accept your offer and approve the transaction. We all know the old saying that time means money.
If your are required to wait too long, you may lose some of your profit. That’s why there is a demand for Arbitrage.
For instance, Bitcoin prices have been growing for a few hours due to some positive news. People decide that cryptocurrencies has a bright future and decide to invest their money into this cryptocurrency. Usually, they go to the most popular and famous Bitcoin exchange platforms like BitStamp. There is already enough liquidity in this exchange and these people help increase that. Consequently, the prices tend to change and increase rapidly or fall very low. At the same time, less liquid Bitcoin exchange platforms, with fewer members and traders, are also growing (or decreasing), but not as fast and this is the key point. In a few hours or minutes, there appears a spread. For example, a liquid exchange has a price $350 per BTC, while a non-liquid exchange has at $335 per BTC at the same moment. Here is an opportunity for an arbitrage. It is going to be $15.
Obstacles to Your Profit
How do people use these opportunities of arbitrage? They buy Bitcoins on a less liquid platform and sell them on a more liquid one. If you are going to take advantage of this, you’d better know the pitfalls that may reduce or even eliminate your profit. Here they are.
Bitcoin transactions are always verified. Mining is literally the process of verifying all the transactions, which were made by the network. Miners need to solve a block of transactions and a deal normally takes 10 minutes to complete. In this case, there is a risk of missing the spread. You can purchase a Bitcoin for $300 on a less liquid market, with the intention to sell it on a more liquid one for $330. Unfortunately, the process takes 10 minutes and in that time, a Bitcoin on a liquid exchange may now cost $290. If you want to sell your Bitcoin, you will incur a loss of $10. In other words, you should not trade too short for arbitrage. Be sure that the Bitcoin value is going to grow at least during the next ten minutes while trying to sell them.
Next are the fees. You should always consider that Bitcoin trading platforms normally have fees and charges for their service. This is their business though it normally doesn’t exceed 1% of the transaction amount. This means you should take into account two fees. The first is when you buy Bitcoins and the second is when you withdraw them to sell. Fees may vary from platform to platform so you need to be sure that with such charges, the deal is still profitable. In most cases, it is, but you’d better be aware of exactly how much you are gaining.
Automate the Process
Previously we discussed that some traders use special software called ‘bots’ for these purposes. Arbitrage is an ideal option for the use of bots. There is a particular piece of software, which is designed for trading on exchanges. Bots usually have a number of scripts or instructions describing how to behave, depending on the situation of the market. There are many of them on the market making it easier to find the best one for you. Most of these trading bots are available to configure and customize. It can analyze the indicators, look at the information that exchanges provide and then buy or sell coins in an adjusted way. Most of them are not free, but if you have enough programming skills, you can make your own bot. The core responsibilities for an arbitrage bot are quite simple. It must trace all the exchanges where you have accounts, find the lowest and the highest price at the particular moment, and then make a transaction. You have to set some indicators like fees, the volume of trading, or whatever you think necessary, but the main idea is not complicated.
Consequently, whether you are going to use a good trading bot or you think it’s better to do it by yourself, you need to remember that you shouldn’t risk any amount of money you cannot afford to lose.
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