Research: Cryptocurrency Exchanges Are Infested with Special Arbitrage Bots

‘Flash Boys’, a 2014 book by Michael Lewis received a lot of traction for exposing the equity market for being rigged in favor of high-frequency trading firms that profited from high-speed data links to with stock exchanges.

Now, a new paper by researchers from several universities makes similar claims regarding cryptocurrency exchanges. The paper alleges that all sorts of crypto firms are operating specialized ‘bots’ – intelligent pieces of code – that are profiting from other users’ trading activities on decentralized exchanges. The practice hurts ordinary users by giving these firms an edge over them.

The paper states that while decentralized exchanges only make up a fraction of the crypto market, their usage is only going to grow because of the efforts of some major players in the centralized crypto exchanges sector. An example is Binance which is the world’s largest centralized crypto exchange. Binance has long been pushing for the development of decentralized crypto exchanges and is, in fact, building its own one. Other centralized crypto exchanges are soon to follow suit. This context makes the damning paper all the more relevant.

The paper further states that the extent of exploitation on centralized exchanges has not been fully determined. However, it is highly likely that similar practices are also running rampant in centralized crypto exchanges. In the words of professor Ari Juels of Cornell Tech, “If we extrapolate from what we’ve seen on DEXes, it could well be on the order of billions of dollars.” Ari Juels from Cornell Tech is one of the many researchers who contributed to the fascinating discussion in the paper.

The authors of the paper had been tracking a total of six decentralized crypto exchanges, which make only a tiny fraction of the total number of decentralized exchanges. They found that upwards of 500 ‘Flash Boys’ bots were running wild on these six exchanges and making around $20,000 a day for their owners. The exchanges named by the researchers include EtherDelta and Bancor among others.

The original ‘Flash Boys’ had made similar claims regarding the equity market back in 2014. However, the traders at Wall Street still consider it a misrepresentation of the facts. Claiming that what the book called manipulation is simply unavoidable facts of life for exchanges where users expect to buy and sell instantaneously.

Yet, the researchers who authored the recent research paper hoped that the revelations would incentivize the crypto community to look for better exchange designs.