Note: the images and examples shown below are hypothetical and for illustrative purposes only. Please consider various elements and scenarios when considering arbitrage trading.

If you’re new to the concept of arbitrage, you’ll enjoy our introduction and visual examples here.

In mainstream financial, commodity, and currency markets, highly sophisticated traders, investment funds, and algorithms make it difficult for retail investors to spot, let alone exploit, arbitrage opportunities. Even if an average trader finds arbitrage potential, they’re competing with tens of thousands of others looking for those same opportunities.

In a new and expanding industry like DeFi, however, opportunities are more available to retail traders who are willing to find them. This can be attributed, in part, to a few simple reasons:

The result: a growing, maturing new financial frontier that provides more arbitrage opportunities for the retail investor.

Arbitrage can be seen as positive influence because it promotes efficiency in the market. By exploiting price differences in assets between different markets or exchanges, arbitrageurs bring prices into alignment. Additionally, arbitrage provides liquidity in various markets by increasing trading activity and narrowing bid-ask spreads. This can lead to lower transaction costs for market participants.

Some might argue that excessive arbitrage activity can lead to increased market volatility. They also argue that arbitrageurs may take advantage of informational asymmetries and other market inefficiencies that are not accessible to other market participants, which might create unfair advantages for those with access to better infrastructure or faster data feeds.

To find the Asset Trade Ratio charts, a user would find the Expanded Details pages of a chosen set of liquidity pools. Let’s consider a hypothetical scenario: we’ll use the Trader Joe and Pangolin protocols and a common liquidity pool pairing: Wrapped ETH (WETH) and Wrapped AVAX (WAVAX).

To compare the two pools and their Asset Trade Ratios, a user would simply open a browser tab for Trader Joe’s WETH-WAVAX pool, and another for Pangolin’s WETH-WAVAX pool. Within these pages, users can toggle between the LP Token Price chart, and the Asset Trade Ratio chart. In this instance, we want to look at the Asset Trade Ratio chart for both.

As we can see in the image, there’s a discrepancy between the two pools. On Trader Joe, we see that one WETH token is worth 117.5 WAVAX, while on Pangolin we see that one WETH is trading for 114.5 WAVAX.

This presents a two-sided arbitrage opportunity for investors, depending on their goals.

For investors looking to accumulate more WAVAX tokens they could swap their WAVAX to WETH on Pangolin at a better valuation, since their WAVAX is worth more WETH here. Then, the user would trade the WETH back to WAVAX at a higher margin on Trader Joe.

For example: let’s say the trader has 5,000 WAVAX. In this instance, the steps are as follows:

• Step 1: Pangolin: Swap 5,000 WAVAX x 0.0087336244 ETH = 43.6681222 ETH
• Step 2: Trader Joe: Swap 43.6681222 ETH x 117.5 WAVAX = 5,131.0043668 WAVAX

Profit: 131 WAVAX

Alternatively, for investors looking to accumulate more WETH tokens, a DeFi investor would execute the inverse arbitrage. They would trade their WETH to WAVAX on Trader Joe to accumulate more WAVAX, and then connect to Pangolin to sell their WAVAX back to WETH at a higher margin.

For example: let’s say the trader has 100 WETH. In this instance, the steps are as follows:

• Step 1: Trader Joe: Swap 100 WETH x 117.5 WAVAX = 11,750 WAVAX
• Step 2: Pangolin: Swap 11,750 WAVAX x 0.0087336244 ETH = 102.62 ETH

Profit: 2.62 ETH.

Every investor has different perspectives and goals based on their investment preferences, their timelines, the capital at their disposal, their risk tolerance, and experience levels. Some overall factors that may influence their decision making process could include:

• The size of the asset(s) price discrepancy.
• Their available capital for trading.
• The amount of liquidity available for the asset within each protocol or exchange.
• The gas fees to migrate funds cross protocol or cross chain.
• Potential trading fees related to the arbitrage.
• Tax implications related to the profit of the trade.

Any of these factors can play a role in determining whether a possible arbitrage opportunity is worth acting upon. Learn more about these factors here

Please Note: While the images above illustrate potential ways DeFi investors can spot arbitrage opportunities, users should remain aware that Yield Monitor is in BETA, and we strongly encourage you to leverage Yield Monitor’s tools as a single part of your overall investment toolkit. As with any new industry, protocols and investment products change rapidly. We encourage you to limit your risk and use safe practices when using any protocol or investment strategy.