The Basics of Precious Metal Arbitrage

The Basics of Precious Metal Arbitrage

7 Min.

Trading metals involves using derivative markets to speculate on or hedge against price changes of commodities such as gold and silver. Since these commodities are traded globally, price discrepancies may occur due to various factors. Arbitrage is a method of exploiting these apparent price differences to earn low-risk profits.


Trading in precious metals, considered commodities, encompasses various security classes, including spot trading, futures, options, funds, and exchange-traded funds (ETFs). Across the global market, gold and silver, two highly traded and favored investment commodities, present abundant trading prospects characterized by substantial liquidity.

Similar to other tradable assets, arbitrage opportunities are prevalent in precious metals trading. This piece elucidates the fundamentals of precious metals arbitrage trading, illustrating how investors and traders can capitalize on arbitrage in this sector.

What Is Arbitrage?

Arbitrage is a financial strategy involving exploiting price differences between buying and selling a security, such as equity or futures. This price differential, often called the bid-ask spread, presents an opportunity for profit.

For instance, let's consider the gold market. At Comex, gold is priced at $1,825 per unit, while a local exchange offers it for $1,827. A savvy investor can purchase at a lower rate and sell at a higher price, yielding a profit. Different forms of arbitrage include:

Geographic Arbitrage

Variances in supply and demand across different geographical markets can result in price disparities. For example, if gold is priced at $1,850 per ounce in New York and GBP 1,187 per ounce in London (equivalent to $1,826.15 after conversion), and shipping costs are $10 per ounce, a trader can profit by buying in London and selling in New York, realizing a $13.85 gain per ounce. However, this strategy entails risks due to transit time.

Cash and Carry Arbitrage

This approach entails holding a long position in the physical asset (e.g., spot silver) and a corresponding short position in the related futures contract. Funding is required for asset purchase, and storage costs apply. For example, if physical silver costs $750, one-year silver futures trade at $825, and the total cost of carrying the position for a year amounts to $800, a trader can benefit if futures prices remain favorable.

Arbitrage Across Asset Classes

Precious metals are also traded through specialized funds and ETFs. While end-of-day NAV-based funds may not provide arbitrage opportunities, real-time traded gold-based ETFs offer prospects for arbitrage between ETFs and other assets like physical gold or gold futures.

Precious Metals Options Arbitrage

Options contracts, like gold options, can offer arbitrage opportunities. For instance, a synthetic call option created by combining a long gold put option and a long gold future can be exploited against a long call gold option.

Time-Based Speculative Arbitrage

Traders can engage in time-based speculative trading in precious metal securities by taking positions and liquidating them after a specified period based on technical indicators or patterns. This approach deviates from simultaneous buying and selling but still aims for arbitrage profits.

Exploring Precious Metal Arbitrage

Gold, platinum, palladium, and silver are the primary contenders in the precious metals trading arena. Diverse participants, from mining firms to individual traders, comprise the market landscape, encompassing entities such as bullion houses, banks, hedge funds, proprietary trading firms, market makers, and commodity trading advisors (CTAs).

The genesis of arbitrage in precious metals trading is multifaceted, rooted in several factors and mechanisms. These opportunities emerge from fluctuations in demand and supply, trading dynamics, assessments of assets linked to the same underlying, geographical variations in market conditions, and intricate variables spanning micro and macroeconomics.

  • Supply and Demand Dynamics:

In the past, gold served as the anchor for many nations' monetary reserves. Although the gold standard has waned, economic shifts, including inflation, can trigger substantial demand surges for gold, considered a safe haven. For example, when institutions like the Reserve Bank of India signal large-scale gold purchases, local gold prices surge, prompting active traders to capitalize on these developments.

  • Price Transmission Timing:

Securities across different classes tethered to the same underlying asset typically move in tandem. A shift in the price of physical gold in the spot market, for instance, eventually ripples through gold futures, gold options, gold ETFs, and gold-based funds. However, market participants may not instantly react to these price changes, resulting in time lags. Astute traders exploit these gaps, fueling arbitrage opportunities.

  • Time-Bound Speculation:

Technical traders often engage in day trading precious metals using time-based indicators. They identify and ride technical trends, executing long or short positions and liquidating them based on predetermined criteria. Algorithm-driven speculative activities create demand and supply imbalances, which keen-eyed market participants leverage for arbitrage or other trading maneuvers.

  • Hedging and Cross-Market Arbitrage:

Bullion banks adopt strategies like holding long positions in the spot market while simultaneously shorting identical investments in the futures market. This action can induce disparate reactions in both markets due to order size disparities. Spot prices rise while futures prices fall, eliciting varied responses from participants based on timing, thereby engendering price differentials ripe for arbitrage.

  • Market Influence Dynamics:

In the ever-active realm of commodities trading, markets operate 24/7, with a continuous flow of participants across various geographical regions. Trading and arbitrage cascade from one market to another throughout the day, creating a cyclical influence. As markets shift, so do trading activities, with one market driving the next. This perpetuates opportunities for arbitrage, accentuated by fluctuating exchange rates.

Useful Insights for Traders

Navigating the trading landscape involves understanding various options, market-specific practices, and areas to exercise caution.

  • Commitment of Traders Report (COT):

In the US, the Commodity Futures Trading Commission (CFTC) issues the weekly COT report, detailing the collective positions of futures market participants. It comprises three segments: commercial traders (typically hedgers), non-commercial traders (typically large speculators), and non-reportable traders (typically small speculators). Traders often use this report to inform their decisions, often opposing non-reportable traders and aligning with non-commercial traders. However, the report's reliability can be questioned due to major participants shifting net exposures between markets.

  • Open-end ETFs:

Some funds, like GLD, are open-ended and offer appealing arbitrage opportunities. Authorized participants play a pivotal role by buying or selling physical gold in response to ETF unit demand or supply. This process enables prices to maintain a narrow range, fostering arbitrage opportunities between physical gold and ETF units.

  • Closed-end ETFs:

Closed-end funds, exemplified by PHYS, possess a finite number of units without the option to create new ones. While open to outflows, they do not accept inflows, often leading to high premiums when trading existing units. Arbitrage potential primarily favors sellers, requiring buyers to anticipate organic asset price growth exceeding the premium paid.

  • Asset Allocation:

Not all funds allocate 100% of invested capital to the specified asset. For instance, the PSLV ETN invests 99% in physical silver, reserving 1% in cash. This means that investing $1,000 in PSLV effectively provides $990 worth of silver and $10 in cash. Given the slim profit margins in arbitrage trading and associated transaction costs, comprehensive knowledge of the assets involved is imperative.

  • Conversion Options:

Some funds, such as Sprott Physical Silver Trust Units (PSLV), offer the possibility of converting to physical bullion. Buyers should exercise caution when acquiring assets at a premium unless they anticipate intrinsic price appreciation.

  • Exploring Arbitrage Opportunities:

Traders can delve into arbitrage by exploring various exchange-traded products. Platinum ETFs and ETNs, like PLTM, PPLT, and PGM, may exhibit price disparities relative to their net asset values. Traders can seek opportunities by purchasing those with lower price-to-NAV ratios and selling those with higher market price-to-NAV ratios.

Diverse ETFs and ETNs are available for precious metals like gold and silver, as well as a range of non-precious metals, offering a rich terrain for potential arbitrage.


Precious metals arbitrage presents formidable challenges characterized by heightened risk and complexity. Executing a buy order without a corresponding sell order can expose a trader. Operating across diverse security classes and multiple exchanges introduces operational hurdles. Transaction expenses, foreign exchange rates, and subscription fees exclude potential profits. Given the unique dynamics of precious metals markets, prudent diligence and caution are prerequisites for venturing into this arena.

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