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Bitcoin arbitrage is an investment strategy in which investors buy bitcoins on one exchange and then quickly sell them at another exchange for a profit. Because bitcoins trade at different prices on different exchanges, it’s an opportunity that many investors have seized in recent years.

Arbitrage is not unique to Bitcoin investing. It occurs across the capital markets, wherever the same asset trades for different prices in different places. To take advantage of those inefficiencies, investors will buy in one place and sell in another to exploit those price differences.

Bitcoin arbitrage differs from other forms of arbitrage in that it’s harder to place a value on Bitcoin. Because it’s completely digital and not based on an underlying asset, it doesn’t have the same pricing conventions as do equities and bonds, which are tied to the performance of a company, municipality or nation.

With there are more than 200 exchanges available to people investing in cryptocurrency, there are likely to be many different Bitcoin prices available at any given moment for people who want to try crypto arbitrage. But not all exchanges are created equal. Some have enormous trading volumes, while others aren’t as active. The trading volume on each affects the liquidity and the available prices on a given exchange.

How Profitable Is Bitcoin Arbitrage?

Bitcoin arbitrage has the potential to be an enormously profitable way to invest in Bitcoin. One well-known 2017 example saw Bitcoin selling on Kraken for $17,212, but on Bitstamp for a mere $16,979. At that moment, investors potentially stood to make $233 per Bitcoin by buying them on Bitstamp, and then quickly selling them on Kraken.

On a basic level, successful Bitcoin arbitrage depends on looking for gaps between the prices on one cryptocurrency exchange and another, and then executing a buy and a sell. But the number of Bitcoin arbitrage opportunities have shrunk in recent years, as more large institutions with sophisticated trading algorithms have gotten into the Bitcoin arbitrage business with services commonly known as btc arbitrage bots.

Where to Look for Arbitrage Opportunities

Unlike many other cryptocurrency digital assets, Bitcoin has become very widely traded. Starting in 2017, trading volume has taken off from an average of $5-$10 million per day to $100-$200 million per day, which means more overall liquidity, and fewer price inefficiencies for arbitrageurs to take advantage of. That’s why many Bitcoin traders use software applications that track the hundreds of Bitcoin exchanges in real time to find opportunities.

An alternate way to use Bitcoin in an arbitrage play is through something called “triangular arbitrage.” Here, an investor would start with Bitcoin and then trade it for another cryptocurrency that is undervalued as compared to Bitcoin, on that same exchange. The investor would then trade that second cryptocurrency for a third cryptocurrency that is relatively overvalued when compared with Bitcoin. Finally, the investor would trade that third cryptocurrency for Bitcoin, completing the circuit, with slightly more Bitcoin than they started with.

Nowadays almost all Bitcoin exchanges have the software capabilities to create a useful arbitrage tool when placing trades. For instance, on Coinbase, Bitcoin may be priced at $18,600, while on Binance it could be priced at $18,570. Since cryptocurrencies can be priced differently on different exchanges, the opportunity to easily capture profit lies in the price difference between exchanges.

Bitcoin Arbitrage Tips and Potential Pitfalls

Investors typically need to devote a lot of time and energy to researching and executing a complex trade—not to mention the money required to buy the bitcoin. Trading speed is also a factor as Bitcoin prices change within milliseconds. By the time many investors can execute the trades to take advantage of Bitcoin price differences, those differences may no longer be big enough to be profitable.

Another factor in calculating potential profit is transaction fees on buying and selling across trading platforms. These fees—which vary from exchange to exchange—can sometimes be higher than the profit generated in an arbitrage trade.

The exchanges themselves also pose a risk to investors. One reason that a given exchange may offer such an appealing buy or sell price is that the trading volume on it is very low. And low volume may mean that the exchange can’t execute a trade large enough to deliver the profit an investor is hoping for. Low volume may also mean that the trade is possible, but will take too long to seize the pricing opportunity.

Finally, there’s a risk of loss if an exchange goes under. In engaging in Bitcoin arbitrage, investors might decide to engage with more unfamiliar exchanges—but cryptocurrency exchanges collapse or vanish on a regular basis, as a result of government shutdown orders, or being hacked, or mismanagement, or criminality by their owners.

Is Bitcoin Arbitrage Legal?

Bitcoin arbitrage is legal, as is arbitrage in most other financial assets. Arbitrage plays an important role in creating efficient markets and setting clear prices for market participants.

That said, Bitcoin and other cryptocurrencies are largely unregulated. In the United States, where cryptocurrency adoption has skyrocketed in recent years, officials can’t seem to agree on how they classify cryptocurrencies. The IRS tax guide categorizes cryptocurrencies as property; the Securities and Exchange Commission has called cryptocurrencies a form of security; and the Commodity Futures Trading Commission has called them a form of commodity.

How Are Bitcoin Arbitrage Gains Taxed

Because Bitcoin and other cryptocurrencies are considered property by the IRS, transactions are treated in much the same way as any other property transaction. Investors are expected to report capital gains or losses on the sale of cryptocurrency, taking deductions when permitted and applicable.

The Takeaway

With Bitcoin trading on hundreds exchanges, the idea of taking advantage of pricing mismatches for the same asset can seem irresistible to some investors. But it requires careful research before jumping in.

An interested investor should be prepared to do lots of research on different exchanges, different bitcoins, and any fees associated with buying and selling. Additionally, it’s important to have enough money required to execute an arbitrage move and still yield the desired profits.

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The information provided is not meant to provide investment or financial advice. Investment decisions should be based on an individual’s specific financial needs, goals and risk profile. SoFi can’t guarantee future financial performance. Advisory services offered through SoFi Wealth, LLC. SoFi Securities, LLC, member FINRA / SIPC . The umbrella term “SoFi Invest” refers to the three investment and trading platforms operated by Social Finance, Inc. and its affiliates (described below). Individual customer accounts may be subject to the terms applicable to one or more of the platforms below.
Crypto: Bitcoin and other cryptocurrencies aren’t endorsed or guaranteed by any government, are volatile, and involve a high degree of risk. Consumer protection and securities laws don’t regulate cryptocurrencies to the same degree as traditional brokerage and investment products. Research and knowledge are essential prerequisites before engaging with any cryptocurrency. US regulators, including FINRA , the SEC , and the CFPB , have issued public advisories concerning digital asset risk. Cryptocurrency purchases should not be made with funds drawn from financial products including student loans, personal loans, mortgage refinancing, savings, retirement funds or traditional investments. Limitations apply to trading certain crypto assets and may not be available to residents of all states.

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²Terms and conditions apply. Earn a bonus (as described below) when you open a new SoFi Digital Assets LLC account and buy at least $50 worth of any cryptocurrency within 7 days. The offer only applies to new crypto accounts, is limited to one per person, and expires on December 31, 2023. Once conditions are met and the account is opened, you will receive your bonus within 7 days. SoFi reserves the right to change or terminate the offer at any time without notice.

While cryptocurrency is new, crypto lending is quite similar to traditional lending. With a cryptocurrency loan, a borrower typically offers up their cryptocurrency as collateral to the lender, who gives them cash or a stablecoin cryptocurrency that’s tied to a traditional currency, and charges the borrower interest on the loan.

For most cryptocurrency loans, the lender isn’t a bank, but another individual investor. That means an individual can either be a cryptocurrency borrower or lender. There are a number of popular lending platforms where people can lend money to cryptocurrency investors, hold their cryptocurrency digital assets as collateral, and create an income stream from the interest payments of the borrowers.

Reasons to Get a Cryptocurrency Loan

The major advantages of crypto-backed loans are the speed and flexibility they offer. A borrower might be able to secure a loan in hours, and pay-back terms have a wide range—whether a borrower is looking to pay back the loan in a few days, for example, or 12 months.

But investors may want to secure a cryptocurrency loan for any number of reasons. They may need cash liquidity, without missing out on the potential for growth that is a draw to individuals investing in cryptocurrency.

Long-term crypto investors may be reluctant to liquidate their cryptocurrency digital assets. But at the same time, they may need money for short-term needs, like a business or medical emergency, or what they consider to be an irresistible investment opportunity — maybe even investing in bitcoin. That’s where a cryptocurrency loan can make sense for some investors.

Is Crypto Lending Safe?

The history of cryptocurrency is dotted with disastrous hacks. For that reason and more, security should be foremost in the mind of anyone handing over their cryptocurrency assets as collateral.

Whether borrowing or lending, it’s important to research the security of the lending platform’s custodian and its reputation in the financial markets. Also, it may be worth investigating if there’s an insurance policy against the possibility of the platform being hacked.

Risks to Borrowers

The volatility of cryptocurrencies means that the amount of the digital currency borrowers have to put up as collateral may be many times the amount of actual cash they receive in the loan. That, in effect, multiplies the amount they stand to lose if they should default on the loan.

Defaults can be costly: Many major crypto lending platforms allow lenders to keep roughly 80% of collateral if the borrower defaults.

Other risks borrowers should know about include the wild fluctuations in the value of the cryptocurrency used as collateral. If the value of the collateral goes down, some lenders can make a “margin call”, in which they ask for more collateral to get the total value back up to the original ratio of the loan. While a borrower will get that cryptocurrency back when they repay the loan, it can be a highly disruptive financial event, and can come with financial penalties if the borrower doesn’t have the cryptocurrency to meet it.

Where to Get a Cryptocurrency Loan

Getting a Bitcoin loan or any other cryptocurrency loan is a process that’s rapidly evolving. There are many online platforms that allow borrowers to take out loans against the cryptocurrency they own, with new competitors joining their ranks all the time. There are a few centralized platforms that offer the loans directly to cryptocurrency investors. But most crypto loan platforms are decentralized financial (DeFi) platforms—they work by connecting cryptocurrency-investing borrowers with cash lenders.

As investors start researching crypto loan platforms, they may come across a variety of platforms including Nexo and SALT Lending . The interest rates that crypto lending platforms charge can vary widely depending on a variety of factors, including the particular cryptocurrency being used as collateral. Rates might be much higher than the average mortgage rate, and can sometimes come close to the double-digit interest rates charged by credit cards. Borrowers typically also have to pay the peer-to-peer platform a commission, along with other fees.

While a borrower may seek out the lowest available rate, there are other reasons to choose a platform. For one thing, it’s important that the platform is reliable, with strong financial backing, so that it will still be viable when it comes time to get your collateral back.

How to Get a Cryptocurrency Loan

Getting a cryptocurrency loan is fairly straightforward, once a borrower has identified a platform.

1. Create an account. A borrower will need to verify both the cryptocurrency collateral for the loan, as well as their own identity and reliability as a borrower. The platform will then assign a “trust score”, based on the degree to which the platform can verify both identity and financial history.
2. Select a loan type. Borrowers will likely have options depending on the collateral they want to put up and the interest rate they’re willing to pay. Often, if one agrees to a higher interest rate, they won’t have to put up as much cryptocurrency as collateral.
3. Start receiving loan offers. This stage happens quickly. Borrowers typically start to receive loan offers within a few hours after submitting their application form. Once a borrower accepts the terms of the loan, they get the money instantly.

Is Crypto a Good Investment?

An investor who seeks a crypto loan likely believes that their crypto assets will grow in the future. But investing in cryptocurrency comes with risk, just like any other investment.

Plus, there are a unique set of things to know before investing in cryptocurrency. The incredible returns of some currencies have attracted both investors and criminals.

Buying cryptocurrency means sifting through a host of fraudulent schemes that promise dazzling returns. As an entirely digital asset, it’s prone to hacks, and some investors have had their digital currencies stolen.

Many investors don’t want to keep their assets on crypto exchanges, to protect against cyberattacks and theft. Those individuals turn to “cold storage” options to securely store their cryptocurrencies, like hardware or paper wallets, which bring the risk of losing those physical keys, and those cryptocurrency assets, forever.

Also, many cryptocurrencies flat-out fail. Being cutting-edge technologies, cryptocurrencies carry the risk that they won’t work in real-life scenarios. Competition among thousands of blockchain projects is intense, and regulators around the world have periodically cracked down on the crypto industry.

The Takeaway

Cryptocurrency is a new and complex area of the capital markets, with seemingly incredible opportunities. Crypto loans offer an opportunity for quick liquidity, providing one way to stay invested in these markets while freeing up capital for short-term needs.

That said, both cryptocurrency loans and cryptocurrency investing come with their own set of possible pitfalls for investors. Cryptocurrency is a high-risk/high-reward investment, and should be treated as such. Newer cryptocurrencies may offer higher risks and rewards than more established ones. But blockchain as a whole is growing in use, with institutional-level custody services and futures markets joining in the action.

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INVESTMENTS ARE NOT FDIC INSURED • ARE NOT BANK GUARANTEED • MAY LOSE VALUE
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1) Automated Investing and advisory services are provided by SoFi Wealth LLC, an SEC-registered investment adviser (“SoFi Wealth“). Brokerage services are provided to SoFi Wealth LLC by SoFi Securities LLC.
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Neither the Investment Advisor Representatives of SoFi Wealth, nor the Registered Representatives of SoFi Securities are compensated for the sale of any product or service sold through any SoFi Invest platform.

For additional disclosures related to the SoFi Invest platforms described above, please visit https://www.sofi.com/legal/.
Crypto: Bitcoin and other cryptocurrencies aren’t endorsed or guaranteed by any government, are volatile, and involve a high degree of risk. Consumer protection and securities laws don’t regulate cryptocurrencies to the same degree as traditional brokerage and investment products. Research and knowledge are essential prerequisites before engaging with any cryptocurrency. US regulators, including FINRA , the SEC , and the CFPB , have issued public advisories concerning digital asset risk. Cryptocurrency purchases should not be made with funds drawn from financial products including student loans, personal loans, mortgage refinancing, savings, retirement funds or traditional investments. Limitations apply to trading certain crypto assets and may not be available to residents of all states.

Investment Risk: Diversification can help reduce some investment risk. It cannot guarantee profit, or fully protect in a down market.

External Websites: The information and analysis provided through hyperlinks to third-party websites, while believed to be accurate, cannot be guaranteed by SoFi. Links are provided for informational purposes and should not be viewed as an endorsement.