[Cryptocurrency Triangular Arbitrage]-Steemit Crypto Academy | S4W4 | Homework Post for professor @reddileep
Question 1
Define Arbitrage Trading in your own words
Arbitrage Trading
Arbitrage trading is a low-risk investment strategy that capitalize on the price difference of assets to make short-term trade investments. The idea of arbitrage trading is providing a low risk-based trading through buying assets at lower prices and selling at higher prices while making profits. This can be done between exchanges, or through swapping of coins within an exchange.
Arbitrage trading requires experience to capitalize on the opportunities, as it involves spotting slight price differences between exchanges for the same asset, or a profitable loop between prices of different listed crypto assets, and capitalize on that opportunity window.
Another key factor of arbitrage trading is that it requires a good starting capital, since the investment is short-term based and sometimes quick, trading the arbitrage strategy with small capital will result in an unhealthy risk of capital.
Question 2
Make your own research and define the types of Arbitrage (Define at least 3 Arbitrage types)
1- Exchange Arbitrage
Exchange arbitrage is a type of arbitrage that occurs as a result of different exchange rates for the same crypto-asset. Different exchange platforms offer different price rates for the same asset, this occurs as a result of the price spread, liquidity, the volume, and the exchange flow activities. For instance, I compared two exchange rates on coimmarketcap, the two exchanges are Binance and Coinbase, to compare the price of BTCUSDT in both exchanges. Binance exchange listed price for BTCUSDT is $41,870.88, with the liquidity of 817, and Coinbase exchange listed price for BTCUSDT is $41,880.34, with the liquidity of 519.
Comparing the two exchanges above, an arbitrage value of $9.46 is the difference between the price listed on the two exchanges for the same asset BTCUSDT. Ideally, an exchange arbitrage trader can buy BTCUSDT from Binance exchange because of lower prices and sell on Coinbase exchange to capitalize on the arbitrage profit.
2- Triangular Arbitrage
Triangular arbitrage is a type of arbitrage trading strategy that involves a three-step exchange process in which three crypto-assets are exchanged simultaneously within an exchange platform, as a result of differences in prices of the asset when traded with each other. The core idea of this strategy is capitalizing on varying price differences when crypto-assets are traded, through buying a particular crypto at a cheaper rate, such that the final trade will involve the asset that started the trade sequence gaining extra value than the original value.
3- Merger Arbitrage
Merger arbitrage is a type of arbitrage trading that occurs as a result of the merging or acquisition of a company. Traders mostly stock traders capitalize on these opportunities by buying the share prices of the company at a discounted rate before the merging process is concluded. These trade opportunities exist because of the uncertainty and fear surrounding the merging/acquisition processes.
Question 3
Explain the Triangular Arbitrage Strategy in your own words. (You should demonstrate it through your own illustration)
Triangular Arbitrage
As defined previously, Triangular arbitrage is a type of arbitrage trading strategy that involves a three-step exchange process in which three crypto-assets are exchanged simultaneously within an exchange platform, as a result of differences in prices of the asset when traded with each other. The core idea of this strategy is capitalizing on varying price differences when crypto-assets are traded, through buying a particular crypto at a cheaper rate, such that the final trade will involve the asset that started the trade sequence gaining extra value than the original value.
Consider the illustration below:
For instance, let's assume a trader has 0.05 BTC and spotted a triangular arbitrage between trading BTC, XRP, and ETH, such that the rate of trading BTC/XRP is 0.00002171, the trader can sell 0.05 BTC to buy XRP, which its equivalent is 2285 XRP.
Then, the trader proceeds to buy ETH by selling the acquired XRP. The exchange rate of buying ETH with XRP is at 0.0003134, now selling 2285 XRP to purchase ETH, which will be equivalent to 0.7309715 ETH.
To complete the triangular arbitrage, the trader has to sell the acquired ETH to buy BTC back. The exchange rate of ETH/BTC is 0.069250, selling ETH will be equivalent to 0.0506 BTC ~ to 0.051 BTC.
Question 4
Make a real purchase of a coin at a slightly lower price in a verified exchange and sell it in another exchange for a higher price. (Explain how you get your profit after performing Arbitrage Strategy, you should provide screenshots of each transaction showing Bid, Ask prices)
Exchange Arbitrage
For this illustration, I chose two exchanges Binance Exchange and Roqqu Wallet (Exchange). I noticed the arbitrage difference in the price of TRX on both exchanges, Binance exchange-listed price of TRX is $0.08751 while Roqqu Wallet exchange-listed price of TRX is $0.08753
I purchased $33 worth of TRX which is equivalent to 383 TRX. The rate changed to $0.08755 due to price movement.
Next, I withdrew the TRX to Roqqu wallet exchange to capitalize on the price difference.
The exchange rate of TRX on Roqqu wallet is $0.08790.
The exchange arbitrage profit gained is:
Exchange profit = $0.08790 - $0.08755
Exchange profit = $0.00035
Question 5
Invest for at least 15$ worth of a coin in a verified exchange, and then demonstrate the Triangular Arbitrage Strategy step by step using any other coins such as BTC and ETH. (Explain how you get your profit after performing Cryptocurrency Triangular Arbitrage Strategy, you should provide screenshots of each transaction)
Triangular Arbitrage
For this illustration, I chose Binance exchange and the three cryptos are BTC, XRP, ETH.
First, I sold 0.00050232 BTC to purchase 23 XRP at an XRP/BTC exchange rate of 0.00002183.
Then, I proceeded to buy ETH by selling the acquired XRP. The exchange rate of buying ETH with XRP is at 0.0003178, now selling 23 XRP to purchase ETH, will be equivalent to 0.00730020 ETH.
To complete the triangular arbitrage, I have to sell the acquired ETH to buy BTC back. The exchange rate of ETH/BTC is 0.069009, selling ETH will be equivalent to 0.00050376 BTC.
From. the above triangular arbitrage between BTC, XRP, and ETH, I realized a profit of:
BTC profit = 0.00050376 BTC - 0.00050232 BTC
BTC profit = 0.00000144 BTC which is equivalent to $0.063.
Question 6
Explain the Advantages and Disadvantages of the Triangular Arbitrage method in your own words
Advantages of Triangular Arbitrage
There are some advantages of triangular arbitrage, they include:
1- Multiple trade Opportunities
Triangular arbitrage trade opportunities occur frequently, as coin prices differ as a result of liquidity, volume, and other on-chain activities, this creates multiple trade opportunities to be capitalized on by traders.
2- Low Risk
Triangular arbitrage trading encourages trading with low risk since trade orders are executed simultaneously and closed, the overall exposure to risk is reduced since every transaction is happening with the same exchange.
3- Liquidity
Triangular arbitrage is slightly affected by the liquidity level of the exchange compared to an exchange-based arbitrage, where liquidity providers might be different on both exchanges.
4- Automated System
The concept of triangular arbitrage is relatively easy to understand and can be programmed, such that spotting the triangular arbitrage opportunities are handled by software linked to various exchange platforms. This makes it easy to spot trade opportunities.
Disadvantages of Triangular Arbitrage
There are some disadvantages of triangular arbitrage, they include:
1- Price Slippage
Slippage occurs when a trade order was executed at an unintended price, often because of low liquidity, high market momentum, high volume movement of price. This affects the outcome of triangular arbitrage because any order slippage will affect the anticipated profit.
2- Low liquidity
Low liquidity in exchanges can affect the pricing of assets. Triangular arbitrage requires exchange between three assets, less liquid assets are relatively more expensive as a result of spread. This can affect the pricing of these assets, thus reducing the targeted profit percentage.
3- Exchange Data
Some exchanges approximate longer decimals to the nearest significant figures, thus reducing the actual value of the asset exchanged. This can impact the outcome of a triangular arbitrage because some crypto-asset price is approximated in 2 significant figures, some in 3 significant figures and other are 4 significant figures.
Conclusion
Arbitrage trading offers a low-risk short-term investment, that capitalizes on the price difference between crypto-assets or exchange-listed prices. This trading strategy requires trading experience and speed trade executions to maintain profitability, avoiding constraints like slippages, etc. The different types of arbitrage trading offer various opportunities to capitalize on price differences and fluctuations.
Thank you professor @reddileep for this practice base and educative lesson.