Triangular arbitrage

October 29th, 2017, 11:03 PM

Hi guys, i'm new, hello. I have a question about tri. arbitrage between currencies. on paper it seems pretty simple but I cannot seem to understand how the actual execution of such trade would go in the forex market, or if even its possible (possible or not possible is not defined by me able to execute the trade before the arbitrage opportunity disappears."

Quoting

EUR/USD = x
JPY/EUR = y
USD/JPY = z

arrange the three rates in 2 different sequences such that the rates cancel each other out and the LHS = 1, for example

A. (EUR/USD) * (JPY/EUR) * (USD/JPY) = 1
(sell USD to buy EUR, use EUR to buy JPY, use JPY to buy USD back)

B. (JPY/USD) * (EUR/JPY) * (USD/EUR) = 1
(sell USD to buy JPY, use JPY to buy EUR, use to EUR to buy USD back)

In each path A & B, USD is the base you start with and then end up with.

Now, for the path with RHS of the equation : xyz > 1; Arbitrage opportunity exists and the profit to be made starting with $1 = xyz - 1 (path A)

profit with path B = [1/(xyz)] - 1

The part that confuses me, "to buy eur" then, "use EUR to buy JPY", then, "use jpy to buy USD back."

How does that even work? Are they saying that a person would actually have to buy buckets of physical cash and exchange it for profits? How does one buy jpy/eur, if your broker only offers eur/jpy? i'd very much appreciate it if someone can explain the actual execution aspect of this trade:

for example:

buy 1mm lot of eurusd
sell 1mm lot of eurjpy
sell 1mm lot of usdjpy

and profit = xyz

thanks!!!!!!!!!

October 30th, 2017, 05:16 AM

You don't need physical cash, you buy it on 'margin' in the FX market.

But the transactions compensate each other at the settlement (standard D+2)

jasonbourne

Hi guys, i'm new, hello. I have a question about tri. arbitrage between currencies. on paper it seems pretty simple but I cannot seem to understand how the actual execution of such trade would go in the forex market, or if even its possible (possible or not possible is not defined by me able to execute the trade before the arbitrage opportunity disappears."

The part that confuses me, "to buy eur" then, "use EUR to buy JPY", then, "use jpy to buy USD back."

How does that even work? Are they saying that a person would actually have to buy buckets of physical cash and exchange it for profits? How does one buy jpy/eur, if your broker only offers eur/jpy? i'd very much appreciate it if someone can explain the actual execution aspect of this trade:

for example:

buy 1mm lot of eurusd
sell 1mm lot of eurjpy
sell 1mm lot of usdjpy

and profit = xyz

thanks!!!!!!!!!

November 5th, 2017, 10:22 AM

There was a time when trades such as this were consistently profitable, but markets have evolved and unfortunately this is now the bread and butter of High Frequency Traders ("HFT"), and they will beat you to the punch.

I have found that if I expand the number of legs (Triangle with 5 sides !!) and quote less liquid products, trades like this are still possible. Even then though I can't get enough of them to make it worthwhile, and I think it only works because it's a less liquid product where the other side isnt as sure of true value as they would be in a liquid product.

Triangular arbitrage

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Triangular arbitrage