Trading volume has long been the default metric cited by analysts, media experts, and aggregators when ranking crypto exchanges. Although volume provides an overview of market activity, it can be disguised to give the impression that there is more legitimate trading activity in the market than there actually is.
Exchanges can simply print trades that don't exist, or they can force their clients to wash trades (place buy and sell orders of the same size at the same price, immediately canceling each other out, without adding any additional trade volume). You can also encourage them to increase their trading volume. actual liquidity). Volume can be misused as a vanity metric that does not provide a meaningful indicator of the experience that legitimate traders expect.
Liquidity: the lifeblood of a thriving market
Think of liquidity as the speed and ease with which orders can be processed without affecting the asset's spot price. As an indicator, it tells participants how easy it is to execute a trade at or near the current market price.
Kraken uses six metrics to track exchange liquidity across a variety of market health metrics monitored.
spread
of The price difference between the highest bid (the price a buyer is willing to pay) and the lowest ask price (the price a seller is willing to pay). Narrow spreads allow for better trades because they have lower trading costs (besides commissions) and a better consensus about the current market value of the asset.
depth
The relative size and number of simultaneous open bids and offers. Depth in the marketplace means new orders can be filled more easily and have less impact on trading prices.
Order book stability
of The depth of the degree market changes over a given period of time, especially when the market is in distress. A highly stable order book means that orders consistently impact the market. This is especially important when volatility is high.
Imbalance between buy and sell prices
of Comparative size of bid and ask prices at a specific depth. Imbalances (e.g., a bid size much larger than the ask price) create unstable directional liquidity and make the asset price susceptible to high fluctuations in one direction.
potential liquidity
of The cost of a market order is measured by the take fee. Setting taker fees at appropriate levels allows you to place market orders with optimal opportunity cost.
price dispersion
The speed at which an exchange updates market prices compared to other exchanges. Minimal price dispersion means traders can act quickly on new price information.
How liquidity affects real-world trading
High liquidity saves time and money. Just like in a real physical market, when there are many buyers and sellers, transactions occur quickly and seamlessly. On the other hand, illiquid marketplaces incur opportunity costs. This means that trades take longer to close and are executed at unfavorable prices.
This creates a virtuous cycle where liquidity also drives trading activity, increasing order flow and creating more liquidity. Low liquidity increases execution risk and may discourage clients from trading on the platform, further reducing liquidity.
Liquidity conveys important information that quantity cannot convey
As a metric, liquidity represents the quality of your trading experience. It is self-evident to the client whether the market is liquid or not. If exchanges were ranked by liquidity, there would be no benefit to exchanges that print fake trades or lure customers into wash trades.
There is no point in artificially inflating nominal quantities. The focus will be on aligning incentives between exchanges and end users.
Think of liquidity as synonymous with market resilience. In an illiquid market, orders have a large impact on prices, inhibiting legitimate trading activity. Illiquidity also provides an opportunity for malicious parties to manipulate prices by placing large orders around one depth or price point.
Regulators have previously expressed concern that the price of cryptocurrencies is too easily influenced by whales. In a liquid market, large orders are more easily absorbed and prevent destructive effects on the market.
Emphasizing liquidity over trading volume will directly incentivize exchanges to provide a better hands-on trading experience to attract new customers. Greater awareness of these dynamics creates a healthy and thriving ecosystem and marketplace that clients can navigate confidently and efficiently.
These materials are for general information purposes only and are not investment advice or a recommendation or solicitation to buy, sell, stake, or hold any crypto assets or to participate in any particular trading strategy. Kraken does not and will not increase or decrease the price of any particular crypto asset that it makes available. Some crypto products and markets are unregulated and may not be protected by government indemnification or regulatory protection regimes. The unpredictable nature of the crypto asset market may lead to loss of funds. Tax may be payable on the return and/or increase in value of your crypto assets and you should seek independent advice on your tax position. Geographical restrictions may apply.
