…at least not on the online trading platforms. If you’ve had some immersion in the finance world, you’ve probably heard of arbitrage (read here if you are not familiar), an opportunity for risk free profit. Triangular arbitrage with forex is just the same, but involves three currencies. All it takes is for one of the currencies to be out of whack, and you have a shot to make a quick trade and free money. There’s a problem though, actually several of them and together, they make it very difficult for us, the independent trader, to make any profit.
First of all, you’ll be using an online trading platform with forex. As you might already guess, online trading means computers and they communicate trade information very fast. So fast in fact, that the size and duration of a currency imbalance is very brief. Even if you do notice an imbalance, it is gone before you can do anything about it. It would take computer software to find this and execute the trade. But this leads to another problem.
The bid-ask spread will eliminate your chance to make a risk free profit. Even if you find a currency imbalance with computer software and act on it, the amount of profit you make will be lost because of the bid-ask spread. The online trading platforms, and any dealer for that matter, use bid-ask spreads in the forex world so they can make a profit.
Thirdly, the amount of profit you can make on a percentage basis is quite small. This forces a trader to use a large amount of capital to make a small profit. Of course, this is risk free and if repeated multiple times can lead to bigger returns. But most independent traders don’t have $10,000, or more to trade around.
Finally, and this is perhaps the biggest obstacle to conducting triangular arbitrage with forex, is the very nature of the online trading system. When you deposit your money and start trading on Forex.com or Oanda, you aren’t actually trading foreign currency. I know, I was quite shocked and surprised to hear this. What actually is happening is that you are speculating on the movement of the spot forex market.
So instead of trading actual currencies, you are just placing bets on where you think they will wind up. I found out by chatting to an online advisor at Refco, back when they were in business. Don’t worry, you can still make plenty of money trading forex. It’s just good to know what you are actually doing.
To sum it up, the only way triangular arbitrage is possible with forex, is to have physical currency, a computer software spotting imbalances, and a means of trading that physical currency with those rates at near instantaneous levels. In essence, only large institutions with these resources can attempt this. It’s unfortunate that triangular arbitrage won’t work for us on online trading platforms but this won’t stop us from making smart investments.
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