Bridging the Gap: Arbitrage, Online and Off
I’ve been playing around with some online arbitrage lately. It’s something that you can do online and off, and although the margins can be very tight, arbitrage is scalable and relatively low risk as long as you stay on top of it.
Despite what you might have heard, it’s a perfectly legitimate business model, provided you’re not creating MFA or made for AdSense sites that offer no value to users. I don’t like them. I certainly don’t condone them. But good arbitrage helps bridge the gap between two different markets.
Legitimate arbitrage is tricky because your goal is to make money. That means you want to get traffic in and get it back out again as efficiently as possible. But if your site doesn’t add any value to the user experience, your quality score will go way down and it’ll be tough to turn a buck no matter how well you can turn over your traffic.
The real key to arbitrage is to add value to the user experience. Your primary goal has to be creating a quality site. You’re trading efficiency for quality, and even though the amount of traffic to your ads will go down, the cost per click will go up significantly and it’ll be much easier to turn a healthy profit.
The sites I’m working on right now are making a return of about 15%. In other words, I’m making about $15 for every hundred I spend on traffic. They should do much better, but I’ve just started developing them and the quality score is not on my side yet and won’t be until the sites are more fully developed.
On the one hand, 15% means I have to spend about $35k a month to get $40k for a profit of $5000 a month. Seems risky and capital intensive. But on the other hand, this is a monthly turnover, and simply annualizing this rate shows a return of 180%. Still about 20 times better than your average mutual fund. So it depends on how you look at it.
It is a scalable business, and the key is to start small and keep at it and keep scaling it upwards.
In the real world, many businesses practice arbitrage. And not just in the financial markets. Brokers that practice drop-shipping are doing a form of arbitrage. Basically they’re buying a good from the manufacturer and selling it to the customer but they don’t take possession of it themselves in between.
This means they don’t have the liability of inventory that might not sell. They don’t buy an item until the customer has bought it from them first. Relatively low risk.
Just like online arbitrage, the margins can be very slim if your service quality is lacking. Especially if you’re competing with another manufacturer who will sell directly to your customer. This is especially true in business-to-business transactions. There’s not a lot of margin there for you to be competitively priced as a middle-man and still take a profit.
But you can increase your profit with quality. By being a single-source specialist in your industry or by offering a wide array of goods that are used in a variety of industries, you can do very well. Focusing on a niche market allows you to cut volume-discount deals with manufacturers and ramp up your profits on every sale.
Arbitrage … online or offline, business is business.