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The Mirage of Triangular Arbitrage in the Spot Foreign Exchange Market

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  • Daniel J. Fenn
  • Sam D. Howison
  • Mark McDonald
  • Stacy Williams
  • Neil F. Johnson

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.

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  • Daniel J. Fenn & Sam D. Howison & Mark McDonald & Stacy Williams & Neil F. Johnson, 2008. "The Mirage of Triangular Arbitrage in the Spot Foreign Exchange Market," Papers 0812.0913, arXiv.org.
    • Handle: RePEc:arx:papers:0812.0913
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    References listed on IDEAS

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    1. Aiba, Yukihiro & Hatano, Naomichi & Takayasu, Hideki & Marumo, Kouhei & Shimizu, Tokiko, 2002. "Triangular arbitrage as an interaction among foreign exchange rates," Physica A: Statistical Mechanics and its Applications, Elsevier, vol. 310(3), pages 467-479.
    2. Christos Kollias & Kostantinos Metaxas, 2001. "How efficient are FX markets? Empirical evidence of arbitrage opportunities using high-frequency data," Applied Financial Economics, Taylor & Francis Journals, vol. 11(4), pages 435-444.
    3. Gençay, Ramazan & Dacorogna, Michel & Muller, Ulrich A. & Pictet, Olivier & Olsen, Richard, 2001. "An Introduction to High-Frequency Finance," Elsevier Monographs, Elsevier, edition 1, number 9780122796715.
    4. Yukihiro Aiba & Naomichi Hatano & Hideki Takayasu & Kouhei Marumo & Tokiko Shimizu, 2002. "Triangular arbitrage as an interaction among foreign exchange rates," Papers cond-mat/0202391, arXiv.org, revised Mar 2002.
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    Cited by:

    1. Paz Grimberg & Tobias Lauinger & Damon McCoy, 2020. "Empirical Analysis of Indirect Internal Conversions in Cryptocurrency Exchanges," Papers 2002.12274, arXiv.org.

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