(MENAFN- Khaleej Times) The foreign exchange market is the biggest online market in the world, currently accounting for daily transactions worth more than $5 trillion. This is one of the main reasons why regulators have rooted for the adoption of algorithmic trading - a process taking part on electronic platforms based on complex mathematical models to execute trades. With the course of time, algorithmic trading on the forex market has proved itself as a transparent and efficient way to make money.
What is currency arbitrage?
Markets are prone to the formation of price discrepancies between different instruments, traded on different exchanges or trading venues. This basically means that at a given moment, $1 can have a different exchange rate on the different markets. Currency arbitrage takes advantage of these exchange rate divergences by buying a given currency on one market and instantaneously selling it on another. The difference in the pricing of the separate markets is registered as a profit for the trader. This practically makes the arbitrage trading a near risk-free opportunity.
Benefits of arbitrage strategies
The popularity of currency arbitrage strategies among the wide investing public is growing exponentially due to their numerous advantages. Here are some of the most significant ones:
. Near risk-free trading opportunity: Forex arbitrage trading is considered near risk-free due to the fact that such strategies provide the trader with the opportunity to register profit without having an open currency exposure. This is possible thanks to the way the whole trading process is designed and the rapid trade executions that algorithmic trading systems allow. Whenever a price inefficiency appears, the trading algorithm is able to capture it and seize the moment while it exists. A simple example: If you buy ?1 million from the Indian currency market at 64.40 and sell ?1 million in the Dubai currency market within fraction of a second at 64.45, it is a perfect arbitrage trade.
. Guaranteed profits: Except for the benefit of being basically a near risk-free trading strategy, currency arbitrage is preferred due to the opportunity to register significant profits too. Since the price discrepancies in the forex market are usually measured in micro-pips, in order to make considerable profits, arbitrageurs usually focus either on trading large positions or trading as often as possible. Although the profit from a single trade may not be so substantial, it is, in fact, guaranteed. And when the arbitrageur trades constantly or in large volumes, the profits grow exponentially.
. Price inefficiencies are easily exploited: The systems that execute arbitrage trading strategies are able to easily locate currencies that are under- or overvalued at the given moment and take advantage of that before a correction takes place. The specially-designed trading systems that execute such trades are operating at a very high speed that is unattainable for the common trader. That is why arbitrage strategies via algorithmic trading systems are a good way to make a profit from the current market conditions.
Why arbitrage trading?
The truth is that the forex market is a diverse, yet non-centralised market, which means price differences between different quotes are always going to arise. In general, arbitrage trading works best when there are much price fluctuations, thus resulting in more trading opportunities. In this context, the forex market is a good place for executing arbitrage trading strategies as currencies tend to move their price very often, compared to some of the other instruments.
Who can profit from arbitrage?
The whole act of exploiting price discrepancies requires speed and adequate algorithms. Prices usually correct themselves in a short time and these trading opportunities are available only to those who are able to act quickly and capture the moment. Successful currency arbitrage trading requires specially designed high-speed systems working in accordance with pre-defined complex mathematical models (algorithms). It also needs the availability of real-time pricing quotes which makes this whole process a tough task if you are an independent trader. So in order to take advantage of the benefits that currency arbitrage trading provides, third-party solutions are often required.
Currency arbitrage trading is practically a safe way to invest your money and to ensure a constant multiplication of your funds. The rapid technological development and the introduction of algorithmic trading make this process even easier and more efficient. Without the need of constant monitoring and active trading, the numerous arbitrage opportunities that arise during a trading session can be exploited easily and safely, thus resulting in guaranteed profits.
The writer is associate director on currency arbitrage trading at SMC Comex. Views expressed are his own and do not reflect the newspaper's policy.
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