Foreign exchange and crypto arbitrage

21.06.2020 13:26 Comment(s) By Mark Kahts

"Crypto arbitrage transfers 101"

If you are reading this you’ve probably heard of Crypto Currency Arbitrage before.  Perhaps you know someone who is “trading” already and although they may have explained it, you still feel a bit unsure about how it really works.

Arbitrage is no new phenomenon in the financial world having been around for millennia in some shape or form.  It can be defined as the opportunity, or the price difference, of something bought in one marketplace and sold on another - if you buy low and sell high, you have made a profit from the arbitrage opportunity that existed.  With Crypto Assets like Bitcoin, these marketplaces are generally called Crypto exchanges or CATP’s (Crypto Asset Trading Platforms). 

Because Bitcoin and other Crypto Assets are not bound, controlled or managed by countries, corporations or individuals, it remains rather tricky to regulate, in fact it’s fair to say that it remains largely unregulated.  This is one of the factors that contribute to price differences between exchanges, creating arbitrage opportunities for those willing to accept the risk.  This is one of the factors that contribute to price differences between exchanges, creating arbitrage opportunities for those willing to accept the risk.

Before you decide to get into Crypto Asset Arbitrage there are a couple of things to consider:

Identify the opportunity

Do your research and make sure the price difference between exchanges you plan on using is fairly constant, not just a once off occurrence.  Also, as reputable exchanges will have strict paperwork requirements, you’ll want to be certain you’ve selected the right one before going through, what can be, a quite complicated and onerous process.

What fees are involved?

There are several parties involved in the execution of your arbitrage transaction with each offering a service for which you’ll be charged.  Some fees are fixed while others are percentage based, but all costs should be factored in to determine the minimum viable amount with which to trade for a given arbitrage opportunity.  Our advice is, do your homework, thoroughly!

Can you trust the exchanges that you will be using?

As we’ve mentioned, the Crypto Asset industry is still largely unregulated due to the decentralised nature of the product.  Because of this, dealing on exchanges you’re not 100% comfortable with should be a definite NO.  There’ve been instances where exchanges have been hacked or simply shut up shop and disappeared with their customers’ money.  So, do your research on the exchanges you are planning to use, find out how long they have been operating and if they’ve had any security breaches. 

How difficult is it to sell the Crypto Asset I’ve purchased?

It’s important to make sure that there is sufficient liquidity on the exchanges that you plan on using.  A high and consistent daily trading volume illustrates there are enough buyers and sellers in the market to ensure the sale of your chosen Crypto Asset when the time is right.  Also, understand the price-maker/ price-taker fee structure when selling as it can have a significant impact on the outcome of your transaction. 

Test before you trade.

Exchanges allocate wallets in which customers store their Crypto Assets.  These wallets each have a unique “address” in the same way your bank account has a unique account number.  When you trade for the first time it’s wise to use a nominal amount just to make sure that the flow of currency and crypto assets through the various touch points, including bank accounts and crypto wallets, is exactly as intended.  You’ll likely make a small loss but it’s a valuable exercise to check that all the boxes are ticked.

Is this too good to be true?

Even though Crypto Asset arbitrage can be very profitable compared to other investment instruments in South Africa, it’s definitely not without risk.  Those wanting to get involved should understand their exposure; volatility in crypto markets, foreign exchange markets or both can have a significant impact on bottom line.

How much money do I need to start?

This is usually one of the first questions an arbitrage trader asks and to be fair there is no correct answer.  To help arrive at a figure that works for you it’s important to consider your personal situation, your appetite for risk, how and where you will be exposed and all costs associated with an arbitrage transaction.  A good rule of thumb is “never trade with money that you cannot afford to lose”. 

What are the tax implications when it comes to Crypto Asset profit?

The South African Reserve Bank does not recognise Crypto Assets as legal tender in South Africa, however, once your Crypto Assets have been converted into Rand and withdrawn from whichever exchange you are using, the profit is certainly taxable.  How you’re taxed depends on your intention when making the initial investment.  Profits generated trading on a day to day basis will generally be taxed as income.  If you purchase a Crypto Asset and hold it on a long term basis, (typically three years plus) any profit realised on the subsequent sale will be treated as a capital gain and taxed accordingly.  If you’re in any doubt about the tax treatment around buying, holding or selling Crypto Assets it makes sense to seek professional advice.

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