The Mirage of Triangular Arbitrage in the Spot Foreign Exchange Market

TL;DR

This paper examines the existence, characteristics, and profitability of triangular arbitrage in the spot foreign exchange market, revealing that such opportunities are rare, short-lived, and increasingly scarce, supporting market efficiency.

Contribution

It provides a high-frequency analysis showing the limited and diminishing arbitrage opportunities, and demonstrates the difficulty of profiting from them through trading simulations.

Findings

Arbitrage opportunities are short-lived and small in magnitude.

Number of arbitrage opportunities decreases over recent years.

Profiting from arbitrage requires unfeasibly high trading success rates.

Abstract

We investigate triangular arbitrage within the spot foreign exchange market using high-frequency executable prices. We show that triangular arbitrage opportunities do exist, but that most have short durations and small magnitudes. We find intra-day variations in the number and length of arbitrage opportunities, with larger numbers of opportunities with shorter mean durations occurring during more liquid hours. We demonstrate further that the number of arbitrage opportunities has decreased in recent years, implying a corresponding increase in pricing efficiency. Using trading simulations, we show that a trader would need to beat other market participants to an unfeasibly large proportion of arbitrage prices to profit from triangular arbitrage over a prolonged period of time. Our results suggest that the foreign exchange market is internally self-consistent and provide a limited verification of market efficiency.