How Do Transaction Costs Limit Arbitrage Opportunities?
Transaction costs directly reduce the profitability of arbitrage. Arbitrage exploits small price differences, and costs like trading fees, network gas fees, and withdrawal fees can easily erase these narrow profit margins.
If the total cost of executing the trades across different markets is greater than the price discrepancy, the arbitrage opportunity becomes unprofitable and is therefore not pursued. This creates a threshold where only price gaps large enough to cover all associated costs are viable.
Glossar
Transaction Costs
Expense ⎊ Transaction costs represent the total expenses incurred when executing a trade or interacting with a financial protocol on a blockchain.
Withdrawal Fees
Remittance ⎊ Withdrawal fees represent a cost levied by exchanges or custodians for transferring cryptocurrency, options contract proceeds, or derivative settlement funds off-platform to an external wallet or bank account.
Triangular Arbitrage
Arbitrage ⎊ Triangular arbitrage, within the context of cryptocurrency derivatives and financial markets, exploits temporary price discrepancies across three distinct markets or exchanges for the same underlying asset or related instruments.