“Arbitrage trading is a trading strategy in which an investor buys any asset class, such as bitcoin, on one crypto exchange with the aim of selling that position on another crypto exchange for a profit at a higher price.” This is the basic definition of the trading method according to market expert Stefan Lübeck. The method is considered low-risk and represents the opposite of risky speculative trading. As an investment strategy, arbitrage trading is not a phenomenon of the crypto market, but has existed for centuries – earliest historical mention in Italy in the 14th century.
In 2018, more than 600 years later, the trading method helped a previously unknown Wall Street analyst to become enormously wealthy: Sam Bankman-Fried – also known as SBF.
SBF: Arbitrage in the crypto space
Four years ago, the world in crypto space was different. The then all-time high from December 2017 of around 19,800 US dollars could not be maintained, the BTC price leveled off between 17,000 and 3,000 US dollars in 2018 – and the price differences from crypto exchange to crypto exchange were sometimes enormous . So enormous that the banker at the time, Sam Bankman-Fried, quickly shelved his work in the stronghold of the traditional financial world and immersed himself fully in the crypto space when he noticed the discrepancies: There was money to be made here, and really.
He relocated to Japan, where price differences between exchanges were particularly large, and used his company, Alameda Research, previously founded with friends in Berkeley, California, to monetize the differences. To do this, he used a variety of intermediaries and rural Japanese banks. After only a short time, this brought him and his young company 25 million US dollars. Daily. Opposite New York Magazine said he years later: “That was the craziest trade I had ever experienced.”
Although the former FTX boss could now face up to 115 years in prison, the 30-year-old managed to build up a thick wealth cushion with the trading strategy. Can arbitrage trading still create wealth today?
Arbitrage in 2022
The bad news first: Arbitrage trading is no longer a get-rich-quick recipe. Because professional traders have long since discovered the strategy for themselves and use price differences in Bitcoin and Co. using arbitrage bots to profit as quickly as possible. Small investors are reaching their limits: “Since arbitrage trading depends on the speed of execution of purchases and sales, the possibilities of profitable Bitcoin arbitrage trading for small investors have been significantly reduced,” says Stefan Lübeck.
In addition to the necessary speed, the amount of capital is another hurdle for small investors, because in order to benefit from price differences, the trading fees incurred must also be taken into account. Although the bitcoin prices sometimes differed by 30 percent from stock exchange to stock exchange when SBF started, today it is often only decimal places that are used to generate profits. Lower profit opportunities with significantly greater competition that reacts to price differences in fractions of a second.
It is precisely this aspect of time that represents another hurdle. Because not every transfer from crypto exchange to crypto exchange is carried out immediately – minutes often pass. Minutes in which the prices could have leveled out again, which, given the trading fees, could even mean losses for investors.
Stefan Lübeck also knows this, for whom these delays in trades personally put a spanner in the works. Market expert has been trading for years, taking advantage of the price differences on the various exchanges in the past to make profits. At some point he noticed that his transfers were delayed. The higher the price differences, the longer the transfers took.
The market learns
Lübeck suspects that the delays did not arise randomly: “Whereas in 2017 it was still possible to send a cryptocurrency from one exchange to another without a great deal of latency, nowadays there is often an artificial, intentional slowdown in the transfer to Times of large price differences between the different crypto exchanges.”
But even if it is no longer really worthwhile for small investors to engage in arbitrage trading privately, there are ways to get involved in the trading sector even with limited capital. Similar to the mining pools, there are arbitrage pools in which investors can pool their capital and jointly exploit the price differences via arbitrage bots. Common trading bots also offer arbitrage opportunities. Alone: The growing up of the crypto market has meant that you can no longer make really big money with arbitrage.
Tommy Tietze, CEO of TAASC GmbH, a provider of automated trading management, agrees: “Something like that is really not interesting for little people. There used to be a protocol on Terra where you could invest in an arbitrage bot as a regular investor. But otherwise arbitrage only plays a role in the millions.” A sobering conclusion.