Why are Liquidity and Market Making Important for You?

If you think liquidity and market-making are only crucial for crowdfunding projects and investors, you are absolutely wrong. It is essential for the entire crypto market, especially for crypto exchanges. If there is no liquidity, there will be no trade, and when there is no trade, there is no use of a trading platform.

So indirectly, liquidity is the driving force behind crypto exchanges. White Label Cryptocurrency Exchange will only thrive when there is a high trading volume. And high trading volume is directly related to liquidity. If there is more liquidity in the market, people will trade.

And when there is no liquidity, they will become averse, which will drastically affect the trading volume. So if you are in the crypto exchange business, you need to maintain liquidity in the market. Most new exchanges use White Label Crypto Exchange Software along with market-making services to generate trading liquidity.

Market making and liquidity are two critical aspects of the crypto market. In this post, we will discuss about the importance of liquidly and market making for a crypto exchange.

What is Liquidity?

It refers to the ability to convert crypto coins to fiat currency or other crypto coins. Here two factors are essential, i.e. speed and price. The rate at which the cryptocurrency can be converted and the difference in price.

A cryptocurrency is considered liquid if traders can easily trade them for other currencies without affecting the price of the currency. The transaction should be speedy and cost-effective. Apart from the liquidity of the currency, market liquidity is also essential.

A crypto market is considered liquid if traders can easily buy and sell cryptocurrencies in the market without affecting the price of the asset.

Liquidity Problem in Crypto Market

Cryptocurrencies are incredibly volatile, i.e. their price keeps on fluctuating. And where there is volatility, there are liquidity problems. Crypto market has been facing liquidity problems since the beginning. This market is considered illiquid. Unlike the traditional stock market, the participants in the crypto market need to generate liquidity. The exchanges face liquidity problems as there are not enough pairs of cryptocurrencies that can be traded.

There are more than 5,392 cryptocurrencies in the market, out of which only a few popular coins provide liquidity. The other currencies lack liquidity. And the traders who trade in crypto investing for the long term, which again causes low trading volume and volatility. This affects the entire market as well as exchanges.

Market Making to Solve Liquidity Problems

Market makers provide market-making services. It can be an institution or an individual. Market Makers provide liquidity in the market by creating a favourable trading market. The quote Bid price and Ask price to generate liquidity in the market. Many new exchanges approach market makers to build their platform.

These market makers quote different prices using the exchange’s centralized trading software to establish an efficient market mechanism. They cite a price to match the market price of the asset, thereby reducing volatility and increasing liquidity.

Importance of Market Making and Liquidity for Crypto Exchanges

Market making has become an integral part of the exchange business. Many new exchanges approach market makers to ensure high exchange liquidity. When the exchange itself is liquid, investors will reach out naturally.

Quick Order Processing: Market makers help in quick order procession. They match the buy orders with proper sell orders. The orders are matched in such a way that it is beneficial for the buyer as well as the seller. Also, the orders are matched very quickly, without wasting any time. They help in minimizing order processing delays and match orders ideally. This way, the exchanges can promptly process the orders placed by traders. In Centralized Exchange Software Development, the match engine is used to increase the speed of order processing.

· Stabilized Spreads

Market makers play with spreads to provide liquidity. When the spread is tight, there is more liquidity in the market. When the spread is wide, there is liquidity. Spread = Ask price — Bid price. Market makers quote the bid price as well as ask price to earn a profit. They stabilize the spread by quoting the right price and creating stable markets to trade. Exchanges approach market makers to trade on their platform to stabilize the spread. They charge low transaction fees in order to promote liquidity. When there is more liquidity, more traders start trading. It helps to increase the trading volume, which is very beneficial for exchanges.

· Transaction Time

When there is high liquidity, many new participants start trading on exchanges. As there are more traders, the orders are quickly matched. There are many buy orders and sell order to match. As it gets swiftly matched, the transaction time is less. Quick transaction attracts more traders. As the transaction time is less and the trading volume is high, it is more profitable for the exchanges. Even if there is high volatility, quick transactions help traders to make a considerable profit.

· Stable Market

Large trades can easily manipulate the crypto market. If the market is less liquid, even a single large trade order can manipulate the asset price. It makes the market more volatile and less stable. But when there is more liquidity, there are many trades. When there are many trades, the market price remains steady even if there are large trades. So liquidity helps in making even volatile markets stable. When the market is stable, the trading volume increases. A stable market is beneficial for traders as well as exchanges.

· Less Manipulation

Crypto market is the king of manipulation. The market price can be easily manipulated even by a single trader. When there is less liquidity in a crypto market, the market price if a sole trader can easily manipulate an asset. If the trader trades in large volume, the price of the asset will be severely affected. Many people purposely manipulate prices. But when there is high liquidity, a single trader cannot manipulate the price. There is less price manipulation as it will take a large number of traders to trade in large volume to affect the price. This is not favourable for an exchange platform as traders tend to avoid manipulation.

· Increase in Trading Volume

When there is liquidity in the crypto market, and the exchange is also liquid, traders will come in large numbers to trade. Traders are risk-averse. They stop trading when there is less liquidity. But as the liquidity increases, the existing traders will freely trade in large number as there is no price manipulation. With an increase in trading volume, the exchange will earn more commission.

· New Traders

Liquidity brings trust. When there is liquidity, traders can trade easily without manipulation. It will build trust and attract new traders towards the exchanges. With the favourable market condition, even new traders will gain the confidence to trade. They will look for liquid exchanges. New traders bring more commission and revenue.

· High Revenue

The primary source of revenue for crypto exchanges is market-making and commission. With market making, they will add liquidity and create a favourable and stable environment to trade. The traders will start trading in higher volume as the market is more liquid. With higher volume, exchanges will earn more commission. And more commissions will increase their revenue.

· Easy Listing Process

Exchanges help in listing tokens. The crowdfunding tokens need to be listed on exchanges for trade. When the token issuing company approaches the exchange platform, they already have a market maker appointed to increase the liquidity of their token. This makes the exchange’s listing process easy as they don’t have to worry about liquidity of new tokens. When the tokens are traded on the platform, it will help the exchange to earn extra commission.

· Reputation

When exchanges provide liquidity to the traders, more traders will deal using the exchange platform. With more number of traders, exchanges will not only make good revenue but also improve their services. The traders will not leave the exchange platform if they provide reasonable prices and less transaction time. Moreover, this will increase their loyalty toward the exchange platform. It will help in building the exchange’s reputation in the crypto market.

This is how liquidity and market-making help crypto exchanges to survive in a crypto market. If your exchange platform is facing liquidity problems, you can appoint market makers to fix price for you as well bring exchange liquidity.