Liquidity is an important concept that investors and traders need to understand. Understanding this aspect can help you make more informed trading and investment decisions, as well as minimize risks. This is especially true for investors who operate with significant amounts. Within the framework of this material, we will try to reveal some of the implicit features of the cryptocurrency market and liquidity manipulation, there are features that are important to know about.

In this article, we will consider in detail: the best crypto to buy now what is liquidity and how to work with it in the cryptocurrency market. We will also discuss the impact of liquidity on investment decisions and how to use liquidity knowledge in trading. 

Determining the liquidity of an asset in the cryptocurrency market

Liquidity is a term to describe how easy and fast it is to buy or sell a cryptocurrency at the current price.

It is a key indicator of the market, because if the market is not liquid, then this can lead to extremely high price volatility and a decrease in interest in trading in this market. The liquidity and volatility of an asset are directly proportional.

Liquidity is mainly determined by the filling of the order book with limit orders and the value of the spread in it. As a rule, on top crypto exchanges, liquidity is provided by a market maker and high-frequency bots. The volume of trading and the popularity of the project, as well as the presence of large holders in the project, are of indirect importance.

In the cryptocurrency market, the greatest liquidity is on the TOP exchanges. The more popular a crypto exchange is, the more liquidity there is and vice versa. Connect Binance Smart Chain to MetaMask If you work with significant volumes (hundreds of thousands of dollars and more), then you need to use several top crypto exchanges and only assets with high or above average liquidity.

Also, liquidity in the crypto market depends, among other things, on the specific market where the asset is traded, for example, BTC liquidity in the USDT market will be higher than in comparison with other stablecoins, due to the popularity and use of USDT.

 

This is an example of an illiquid project. Here, the entire glass to buy is less than $50,000. The chart shows squeezes in both directions. 1 order to sell on the market over $50,000 will bring down the cryptocurrency price to 0.

A sign of high liquidity is the fullness of the order book and the minimum spread, trading in which does not cover the costs of trading commissions and indirectly frequent transactions. Low-liquid assets, on the contrary, are distinguished by an “empty” order book, a large spread and rare transactions.

High liquidity in the cryptocurrency market is usually seen as a good sign. As a rule, the higher the cryptocurrency is in the capitalization rating, the higher its liquidity, however, you need to understand that random projects after a pump or inadequate emission can get into the rating at sufficiently high positions. As a rule, random projects leave the top of the rankings at an accelerated pace, as quickly and suddenly as they get there.

Liquidity creates even more liquidity

Money attracts money, the same saying applies to liquidity. The ability to quickly buy or sell cryptocurrency attracts traders who work on various trading tactics, such as position trading, swing trading, day trading and scalping, which in turn enhances the liquidity of the asset, as there is an influx of new buyers and sellers, the balance is self-regulated by market conditions, which in turn is displayed on the price chart.

How to determine liquidity on cryptocurrencies

The main 3 factors that will help determine liquidity are: assets are traded on a large number of cryptocurrency exchanges, the fullness of the order book and the absence of frequent squeezes – candles with disproportionate shadows on the chart.

As a rule, exchanges list cryptocurrencies that show trading volumes and may potentially be of interest to users, which means liquidity. An unnecessary and useless cryptocurrency will not be traded on dozens of exchanges. And vice versa, if an asset is traded only on one or several crypto exchanges, then it is easier to manipulate it, creating the appearance of liquidity in order books and increasing trading volumes using bots.

 

Examples of cryptocurrencies with different liquidity

The largest liquidity in the cryptocurrency market is in bitcoin, so you can overnight collect an asset worth hundreds of thousands or even millions of dollars without significantly affecting the price. In second place is Ethereum (ETH). Next come such assets as LTC, XRP, XLM, ATOM, TRX, ETC, etc.

Stablecoins occupy their niche, the most popular are USDT, and USDC. Stablecoins are also considered cryptocurrencies, and in the broadest sense, they have much more liquidity but have a relatively stable value, which does not allow them to be considered investment assets.

There is average liquidity in old projects that are traded on different exchanges, but not on all, for example, DASH, IOTA, DOGE, LINK, EOS and others that are in the top 50-100 by capitalization.

Cryptocurrencies that are traded on one or more exchanges, with a rating of 100+ and above by capitalization, have the least liquidity, there are thousands of them. This also includes crypto projects-memes, fan tokens, etc. It is very risky to consider such assets as an investment for any significant amounts, but for short speculations and for small amounts, they may be relevant.

How to use knowledge about liquidity in trading in the cryptocurrency market

There are very simple, unwritten rules:

  • High liquidity = low volatility, low liquidity = high volatility.
  • High volatility = high risk, low volatility = low risk.
  • High risk = more opportunities to get a big profit or a big loss, and low risk = relative stability.

Accordingly, the very choice of an asset with certain liquidity indicators, whether you like it or not, introduces certain features in terms of expectations and risks.

For ease of understanding, while a liquid BTC asset can lose 20% in price in 1 daily candlestick, during the same time a medium liquid asset can lose 40-50% in price, and a low-liquid one 90% or even fall to 0. The inverse proportion is also fair – so bitcoin from the lows of 2020 to the highs of 2021 showed an increase of about 1500%, some medium-liquid ones showed an increase of tens of thousands of per cent.

Conclusions:

  • To minimize risks, in the presence of a significant deposit, it is rational to choose assets with high liquidity for trading and investment. In addition, it is safe to enter a position and then exit it with large operating funds only on assets with high liquidity. 
  • If the deposit is small, then it may make sense to consider working with medium-liquid altcoins, which have higher volatility, and, accordingly, more opportunities to make a profit in a short period of time, but also more potential risks that need to be controlled.

Low-liquidity cryptocurrencies are high risk working with them requires experience and a thorough, comprehensive analysis of the situation, such as fundamental analysis, tokenomics, and the technical component.

To gain or vice versa to exit a large position, it is rational to use several cryptocurrency exchanges at the same time, so as not to attract undue attention and not have a negative impact on the quote.

Let’s simulate the situation: We have gained a large position in an altcoin. And now, for some reason, you need to dump everything into the market, but for the main pair the glass is empty, if we merge everything in the market, then the price will briefly drop to 0 and we will get losses. The way out can be to distribute the position among several exchanges where trading takes place, as well as use different markets for this, for example, to different stablecoins, to BTC, to ETH, to BNB and also to other markets where the asset is traded, often these are exchange tokens, then, by the following actions, transfer the assets received after the conversion into the most liquid ones. Such a scheme takes time but is able to get out of a very bad situation when it seems that there is no way out.