Liquidity problem causes major price slippage during cryptocurrency sales: Caico

The cryptocurrency market is facing an increasing liquidity crisis, as evidenced by the significant price swings seen during recent sales.

According to a study by Caico, the ongoing liquidity issue on crypto exchanges has resulted in significant price volatility, especially during periods of market stress.

Price slippage

Liquidity fragmentation refers to uneven distribution of liquidity across different exchanges. The recent market sell-off brought these issues to the fore, with BTC prices on Binance.US being different from those on more liquid platforms.

Binance.US, which has struggled with liquidity since the SEC filing in June 2023, saw its daily trading volume drop from $400 million to $20 million in early 2023.

The decline in liquidity has made the platform vulnerable to price volatility, especially during market conditions such as the August 5 sale period. Less liquid altcoins have experienced greater price fluctuations during this event, adding to the challenges faced by traders.

Price volatility, an indicator of liquidity, tends to increase when liquidity dries up during a market selloff, complicating the execution of orders at the desired price. As of August 5, price volatility has increased on most exchanges, with some platforms and trading pairs experiencing more severe gains, according to Caico data.

For example, Ziff's BTC-JPY pair experienced the biggest slippage due to the Bank of Japan rate hike, while KuCoin's BTC-EUR pair saw divergences of more than 5%, highlighting the risks for traders in the less liquid market. Even traditionally liquid, stable coin pairs like BitMEX and Binance.US's USDT and USDC pairs were not immune, with slippage rising more than three points.

The effects of liquidity events can vary not only between exchanges, but also within trading pairs on the same platform. For example, Coinbase's BTC-EUR pair is much less liquid than its BTC-USD counterpart, resulting in greater volatility during periods of strong market activity.

This was seen in March when Coinbase's BTC-EUR price diverged significantly from the broader market, leading to a significant drop in market depth.

Weekly trading

Another reason for the liquidity crisis is the trading activity during the weekdays, especially in the BTC-USD markets. This trend, reinforced by the launch of US spot ETFs, will increase weekend volatility. Unlike traditional markets, crypto markets operate 24/7, so a Friday sell-off can exacerbate weekend volatility, increasing price impact.

During the most recent sell-off, Bitcoin price moved 14% between Monday's open and Friday's close, marking the most recent move in major sell-offs since 2020.

Despite the challenges of liquidity fragmentation, Kaiko explained that crypto platforms can reduce transaction costs by investing heavily in infrastructure to handle high volumes of trading without disruption.