Currency Arbitrage

AAA

DEFINITION of '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.

INVESTOPEDIA EXPLAINS '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. Exchange Rate

    The price of a nation’s currency in terms of another currency. ...
  2. Convertible Currency

    A currency that can be readily bought or sold without government ...
  3. Major Pairs

    The four forex pairs which are considered to be the most heavily ...
  4. Conversion Arbitrage

    An options trading strategy employed to exploit the inefficiencies ...
  5. Arbitrage

    The simultaneous purchase and sale of an asset in order to profit ...
  6. Forex - FX

    The market in which currencies are traded. The forex market is ...
Related Articles
  1. Arbitrage Squeezes Profit From Market ...
    Options & Futures

    Arbitrage Squeezes Profit From Market ...

  2. An Introduction To Day Trading
    Active Trading Fundamentals

    An Introduction To Day Trading

  3. Trading The Odds With Arbitrage
    Options & Futures

    Trading The Odds With Arbitrage

  4. A Primer On Cross Currency Triangulation
    Forex Education

    A Primer On Cross Currency Triangulation

comments powered by Disqus
Hot Definitions
  1. Certificate Of Deposit - CD

    A savings certificate entitling the bearer to receive interest. A CD bears a maturity date, a specified fixed interest rate ...
  2. Days Sales Of Inventory - DSI

    A financial measure of a company's performance that gives investors an idea of how long it takes a company to turn its inventory ...
  3. Accounts Payable - AP

    An accounting entry that represents an entity's obligation to pay off a short-term debt to its creditors. The accounts payable ...
  4. Ratio Analysis

    Quantitative analysis of information contained in a company’s financial statements. Ratio analysis is based on line items ...
  5. Days Payable Outstanding - DPO

    A company's average payable period. Calculated as: ending accounts payable / (cost of sales/number of days).
  6. Net Sales

    The amount of sales generated by a company after the deduction of returns, allowances for damaged or missing goods and any ...
Trading Center