Limits to arbitrage in markets with stochastic settlement latency

  • Distributed ledger technologies rely on consensus protocols confronting traders with random waiting times until the transfer of ownership is accomplished. This time consuming settlement process exposes arbitrageurs to price risk and imposes limits to arbitrage. We derive theoretical arbitrage boundaries under general assumptions and show that they increase with expected latency, latency uncertainty, spot volatility, and risk aversion. Using high-frequency data from the Bitcoin network, we estimate arbitrage boundaries due to settlement latency of on average 124 basis points, covering 88% of the observed cross-exchange price differences. Settlement through decentralized systems thus induces non-trivial frictions affecting market efficiency and price formation.

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Author:Nikolaus Hautsch, Christoph Scheuch, Stefan Voigt
URN:urn:nbn:de:hebis:30:3-480536
URL:https://ssrn.com/abstract=3302159
Parent Title (English):Center for Financial Studies (Frankfurt am Main): CFS working paper series ; No. 616
Series (Serial Number):CFS working paper series (616)
Publisher:Center for Financial Studies
Place of publication:Frankfurt, M.
Document Type:Working Paper
Language:English
Year of Completion:2018
Year of first Publication:2018
Publishing Institution:Universit├Ątsbibliothek Johann Christian Senckenberg
Release Date:2018/12/18
Tag:Arbitrage; Blockchain; Distributed Ledger; Settlement Latency
Issue:December 3, 2018
Page Number:74
HeBIS-PPN:442846738
Institutes:Wirtschaftswissenschaften / Wirtschaftswissenschaften
Wissenschaftliche Zentren und koordinierte Programme / Center for Financial Studies (CFS)
Dewey Decimal Classification:3 Sozialwissenschaften / 33 Wirtschaft / 330 Wirtschaft
Sammlungen:Universit├Ątspublikationen
Licence (German):License LogoDeutsches Urheberrecht