What is 'Currency Arbitrage'

A forex strategy in which a currency trader takes advantage of different spreads offered by brokers for a particular currency pair by making trades. Different spreads for a currency pair imply disparities between the bid and ask prices. Currency arbitrage involves buying and selling currency pairs from different brokers to take advantage of this disparity.


For example, two different banks (Bank A and Bank B) offer quotes for the US/EUR currency pair. Bank A sets the rate at 3/2 dollars per euro, and Bank B sets its rate at 4/3 dollars per euro. In currency arbitrage, the trader would take one euro, convert that into dollars with Bank A and then back into euros with Bank B. The end result is that the trader who started with one euro now has 9/8 euro. The trader has made a 1/8 euro profit if trading fees are not taken into account.

BREAKING DOWN 'Currency Arbitrage'

Currency arbitrage involves the exploitation of the differences in quotes rather than movements in the exchange rates of the currencies in the currency pair. Forex traders typically practice two-currency arbitrage, in which the differences between the spreads of two currencies are exploited. Traders can also practice three-currency arbitrage, also known as triangular arbitrage, which is a more complex strategy. Due to the use of computers and high-speed trading systems, large traders often catch differences in currency pair quotes and close the gap quickly.

RELATED TERMS
  1. Arbitrage

    The simultaneous purchase and sale of an asset in order to profit ...
  2. Currency Pair

    The quotation and pricing structure of the currencies traded ...
  3. Uncovered Interest Arbitrage

    A form of arbitrage that involves switching from a domestic currency ...
  4. Risk Arbitrage

    A broad definition for three types of arbitrage that contain ...
  5. Triangular Arbitrage

    The process of converting one currency to another, converting ...
  6. Forex Arbitrage

    A trading strategy that is used by forex traders who attempt ...
Related Articles
  1. Trading

    Trading The Odds With Arbitrage

    Profiting from arbitrage is not only for market makers - retail traders can find opportunity in risk arbitrage.
  2. Trading

    Covered Interest Arbitrage

    Covered interest arbitrage is a trading strategy in which an investor uses a forward currency contract to hedge against exchange rate risk.
  3. Investing

    What Exactly Are Arbitrage Mutual Funds?

    Learn about arbitrage funds and how this type of investment generates profits by taking advantage of price differentials between the cash and futures markets.
  4. Investing

    How To Arbitrage Precious Metals

    Here are the fine points, trading tips, suitable securities, and examples for precious metal arbitrage trading.
  5. Trading

    Make Money Through Risk Arbitrage Trading

    Risk arbitrage provides a valuable trading strategy for M&A or other corporate actions eligible stocks. Investopedia explains how it works.
  6. Investing

    Arbitrage Squeezes Profit From Market Inefficiency

    This influential strategy capitalizes on the relationship between price and liquidity.
  7. Trading

    NYIF Instructor Series: Risk Arbitrage

    In this short instructional video Jack Farmer explains what risk arbitrage is outlines three different examples of it.
  8. Trading

    A Primer On The Forex Market

    Moving from equities to currencies requires you to adjust how you interpret quotes, margin, spreads and rollovers.
RELATED FAQS
  1. What skills should I acquire to take advantage of arbitrage trading?

    Understand what arbitrage trading involves and what the necessary skill set is that a trader must develop in order to master ... Read Answer >>
  2. How do I use an arbitrage strategy in forex trading?

    Forex arbitrage is a risk-free trading strategy that allows retail forex traders to make a profit with no open currency exposure. ... Read Answer >>
  3. How do I use the news to find arbitrage opportunities?

    Learn what risk arbitrage trading is and how this type of arbitrage trading opportunity is available to individual retail ... Read Answer >>
  4. How do I use software to make arbitrage trades?

    Understand the meaning of arbitrage trading, and learn how traders employ software programs to detect arbitrage trade opportunities. Read Answer >>
  5. What are the goals of covered interest arbitrage?

    Learn the three major goals of covered interest arbitrage and increase your comprehension of the foreign exchange trading ... Read Answer >>
  6. What models should I use to make arbitrage trades?

    Learn about different types of arbitrage models and techniques, and discover why classic arbitrage opportunities are very ... Read Answer >>
Hot Definitions
  1. IRS Publication 970

    A document published by the Internal Revenue Service (IRS) that provides information on tax benefits available to students ...
  2. Federal Direct Loan Program

    A program that provides low-interest loans to postsecondary students and their parents. The William D. Ford Federal Direct ...
  3. Cash Flow

    The net amount of cash and cash-equivalents moving into and out of a business. Positive cash flow indicates that a company's ...
  4. PLUS Loan

    A low-cost student loan offered to parents of students currently enrolled in post-secondary education. With a PLUS Loan, ...
  5. Graduate Record Examination - GRE

    A standardized exam used to measure one's aptitude for abstract thinking in the areas of analytical writing, mathematics ...
  6. Graduate Management Admission Test - GMAT

    A standardized test intended to measure a test taker's aptitude in mathematics and the English language. The GMAT is most ...
Trading Center