With more users creating their first accounts on exchanges like Kraken, Bitfinex, and Bitstamp, or more likely downloading Coinbase, which hit the number one spot on the App Store, they quickly realize there is a massive discrepancy between exchanges.
Explaining a Valley of Difference
Not a couple cents, like it may be at competing gas stations, but sometimes differences in excess of $100.
For example, when litecoin recently surged over $300, GDAX reported litecoin briefly breaking past $400, while other exchanges announced prices in the $350-$370 range.
More extreme would be with bitcoin. A quick peek at a couple of exchanges show differences of several hundred for the BTC/USD ratio, according to the list of exchanges on CoinMarketCap. At the time of writing, Bitfinex is currently trading Bitcoin at $16,416, while Bithumb, is trading it at $17,048.10, a difference of over $600.
Why is there such a discrepancy between different exchanges? There are a couple of reasons behind this characteristic seen in cryptocurrency markets. More importantly, is the fact that traditional trading markets do not experience these distinctions in value.
One of the biggest reasons is the difference in liquidity. Different exchanges handle different amounts of volume, meaning that each exchange has varying amounts of demand and supply for bitcoin, ether, litecoin, and other coins that an individual exchange supports.
Because of basic supply and demand, when a bitcoin surge or any other cryptocurrency occurs, that demand will affect exchanges differently. The larger exchanges with more liquidity will not witness as much price movement as the some of the smaller, and more illiquid exchanges.
The same happens if the opposite occurs: if bitcoin suddenly becomes bearish, larger exchanges will have smaller price drops compared to the lesser known exchanges.
Another fundamental reason for the price differences is the lack of an efficient price discovery mechanism. The “correct” price for a bitcoin, bitecoin, ether, or any other cryptocurrency is still, for the most part, dictated by public sentiment and large traders known as “whales.” Since pricing is still largely speculative, and exchanges can be heavily influenced by one or two deep pockets, this further contributes to the inconsistency in price for exchanges.
Thirdly, prices between exchanges can differ due to demand for cryptocurrency being different in that region. In the past, Asian Bitcoin markets would dominate and be accountable for most of bitcoin’s trading volume, leading to Chinese exchanges trading at prices slightly higher than their US and European based counterparts. We can see this fact when using my example of Bitfinex, a US-based exchange, and Bithumb, a Russian based exchange. By this logic, one could conclude demand for cryptocurrency is higher in the United States than in Russia.
Arbitrage, or buying one asset at a low price and selling somewhere else for a higher price, is still quite challenging to pull off in practice. With the current state of Bitcoin’s transaction networks as well as the accompanying fees, the inefficiency of the market would quickly eat into your margin of profit.
Perhaps as Bitcoin infrastructure improves, the viability of this would improve, but so would the margins, leaving opportunistic traders with a Catch 22.