We are nearing the end of this series around decentralized Exchanges!
In the previous articles you have already learned about how to correctly evaluate and select a DEX, how liquidity mining and the exchange function work on a DEX and what the risks are when using a DEX.
In this article we will look at arbitrage possibilities: an opportunity to earn 10% per day and more!
Arbitrage is common practice
The concept of arbitrage is undoubtedly not something that is only practiced in trading and finance.
Arbitrage can be found everywhere.
If an Amazon trader buys his goods on Alibaba at a much lower price and imports them to Australia to sell them there again at a higher price, that is arbitrage.
But even if there is a different Bitcoin price on Bittrex and Binance (two centralized exchanges), and you use this for your own profit, it is called arbitrage. That kind of arbitrage is what what we will focus on today.
Example: DeFiChain DEX & Bittrex (CEX)
Let’s assume on Bittrex 50,000 DFI are offered at the price of 1 BTC.
As long as on the DeFiChain DEX the liquidity pool also consists of 50,000 DFI and 1 BTC, or 500,000 DFI – 10 BTC, etc., there are no arbitrage opportunities here.
But what happens if the liquidity pool on the DeFiChain DEX now looks like this: 2 BTC – 90,000 DFI
How this can happen? Simply by using the DEX (swaps) and shifting the ratio in the liquidity pool. This happens every single day, with every normal use of the DEX.
This now creates an interesting opportunity for arbitrators (who, as we have already learned in the last articles of the series, thus rebelance the pool).
One could now buy 1 Bitcoin on the DeFiChain DEX for 45,000 DFI.
Only to then buy 50.000 DFI with this 1 BTC on Bittrex again.
As a result you make 5,000 DFI (10%) profit!
Of course, this is a purely fictitious example and in fact it will be very rare (but possible, especially in the beginning of the DeFiChain DEX) to find individual trades with such a high arbitrage.
Much more often, however, there are arbitrage opportunities where the return is around 0.1% per trade… with 50 trades per day, you will end up with a return of 5% per day. Very lucrative!
Arbitrage opportunities & the risks involved
Very important: There are extremely many scams in the crypto market around the topic arbitrage. Do not invest in any traders, bots, etc. – most of the time these are pure Ponzi schemes!
The easiest way to find arbitrage opportunities is to manually detect two different prices on, say, the DeFiChain DEX and Bittrex.
Professionally some people do this with bots, but as I said… Beware, because an offer to “invest” in them is in most cases a scam.
That, and the possibility that in the short time during your two trades the markets might shift so fast that you might record a loss, are actually the only risks in arbitrage.
So you see: Arbitrage has a high upside with relatively little downside. A lucrative business!