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What Is Arbitrage Trading?

Arbitrage trading refers to purchasing a trading asset from a different market at the same time. This is done to take advantage of the price change from the different markets. The trading price of an asset can be different in different markets.

Arbitragers take advantage of this. They earn profits by buying from the low-priced market and selling to the high-priced markets and vice versa. It can be done with any of the trading assets as they are listed on various exchanges or markets.

How Does Arbitrage Trading Work?

The most important thing in arbitrage is the role of financial markets and the fundamental factors. Arbitrageurs need to study the fundamental factors of a trading asset they are targeting for arbitrage.

There are different types of arbitraging ways that can be used by a trader. Arbitrage can also be said as high-frequency trading. This involves the trading of assets in very high volume because of the low change in price.

It is mainly used by institutional traders or traders who are professional sharks of the financial markets.

Types of Arbitrage Trading Strategies

There are different types of arbitrage, out of which some of the most popular ones are listed below:

Statistical Arbitrage

In this type of arbitrage, traders need to analyse the statistics of a trading asset. Deviation from the market rate and correlation have to be looked after. This trading strategy is for the short term and traders can make quick profits by the use of this trading technique.

All a trader needs to do is find the difference between the price of the various markets. After finding the price difference it can be bought from one market and sold to another. Quick profits can be made with the use of this type of arbitrage.

Triangular Arbitrage

This type of arbitrage is done in forex trading where traders use three different currencies to make money. It includes three transactions in which the first currency is exchanged with the second one. After that second currency is exchanged with the third one and the third back with the first one to end the transaction.

Great profits can be made with the help of triangular arbitrage. An example for triangular arbitrage is, suppose there are three currency pairs USD/EUR, EUR/GBP, and GBP/USD.

Traders need to exchange USD with EUR in the first step and then EUR is exchanged with GBP. Finally, in the last step, GBP is again converted to USD to make money from the forex market. Profits can be higher with this type of arbitrage.

Interest Arbitrage

Interest arbitrage means arbitrage on the interest rates of two different currencies. When two parties are taking a loan in their domestic currencies they can exchange the rate of interest with the help of a contract.

There is proper documentation and a bank or broker is also involved in the transaction to act as an intermediary. Large investors or companies do this to save their expenses on their interests. This is a good way to cut off the expenses and increase your profits.

Key Points While Performing Arbitrage

Before doing any type of arbitrage trading, traders or investors need to analyze and study a few points that are as follows:

  • Study every aspect of the trading asset you are using including the historical prices also before arbitrage.
  • Calculate an approximate profit before entering into any trade so that you can have an idea about it.
  • Deduct all the fees and charges from the profits and calculate the net profit before you start trading.
  • Use risk management strategies and analyze the amount of risk involved in the trade you are about to perform.
  • Make another check to the whole plan just to make sure that you are in a profit situation and then execute the plan.

Make Sure to Pick the Right Broker

The role of a broker is equally important as the role of trading assets. It is advised to every trader to pick the right broker for your trades. Compare different brokers and then select the best one.

Traders need to compare many things of a broker such as:

  • Regulations
  • Number of trading assets
  • Trading platform
  • Minimum deposit and trading accounts
  • Leverage, educational material, and trading tools offered

These are some of the things traders should compare before choosing a trading broker like capitalix

The Bottom Line

Arbitrage trading is highly profitable but requires a lot of research before any trade. Traders need to understand the market and choose one of the best brokers for it. You can make higher profits with the use of this trading technique.

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