Arbitrage is the purchase of a product which is then sold to make a profit. Successful arbitrage relies on the fact that different markets value products at different rates. It’s popular in the stock and commodities market, and is the driving force behind a number of industries from antiques to cryptocurrency. A person who uses arbitrage is called an arbitrageur.
A Simple Example
A classic example of arbitrage is vintage clothing. A given set of old clothes might cost $50 at a thrift store or an auction. At a vintage boutique or online, fashion conscious customers might pay $500 for the same clothes. A smart consumer can spend $50 at their local thrift shop, and then sell the same item on Etsy for $500.
That’s an example of arbitrage with $450 in profit, before other costs like listing fees, transaction fees, and shipping costs are considered. Those factors and others, such as the amount of labor and time involved, can complicate low-volume arbitrage like this. At the same time, arbitrage is a powerful profit-making tool used everywhere from garage sales to international banking.
More Examples of Arbitrage
Arbitrage is a widely used practice that occurs on just about every level of the economy.
- Exchange rates are an important form of arbitrage. If the exchange rate in London is £1 = $2 while the exchange rate in the U.S. is £1 = $3, then a smart consumer can make a profit simply by converting their money from dollars to pounds in London, then converting it back when they return to the U.S.
- Arbitrage, or “arbing,” is used in sports betting. Since different bookmakers offer different odds on a given event, a gambler can bet different amounts on all possible outcomes of an event, guaranteeing profit no matter what happens. As an extreme example, if one bookmaker were offering odds of 3-to-1 that a team would win, and another were offering odds of 30-to-1 that they would lose, then a gambler could simply bet $10 with the first and $1 with the second, spending $11 for a guaranteed $30 return.
- Arbitrage also occurs on a corporate scale. Global labor arbitrage, commonly called “offshoring,” refers to a form of arbitrage in which companies move their assets to countries with the lowest labor costs, paying less money for the same work.
- Many cryptocurrency investors are arbitrageurs. Cryptocurrency value is highly variable, dependent on a wide variety of factors. By keeping a close eye on those factors, such as investor interest, media attention and tone, and increasing or decreasing use in the marketplace, smart crypto investors can spend a small amount of money buying into a given cryptocurrency, then selling it for conventional currency when the value is at its highest.
- Arbitrage is a vital part of Internet marketing, particularly affiliate marketing. An affiliate marketer - that is, someone who promotes a company’s product online and is paid a commission for delivering leads or successful sales - can buy low-cost traffic to earn a much higher commission. For example, let’s say an affiliate marketer pays 10 cents per click in an ad campaign and anticipates a 10 percent conversion rate. In other words, he would spend $1 in traffic (10 clicks) to get one conversion (10 percent of 10 clicks). If the commission is more than $1 per conversion, he will have earned a profit.
Arbitrage Around the World
Arbitrage is a core aspect of the global economy, whether you’re a small businessperson selling vintage clothes on Etsy or a major investor trading billions of dollars across currency markets. Ultimately, it comes down to the oldest rule of investment: buy low, sell high.