What Is Liquidity in Cryptocurrency?

Many factors influence trading and pricing in the digital asset market. Cryptocurrency liquidity is one of the most important indicators on which risks, price stability, and ease of capital management depend. The higher its value, the easier and faster it is to sell an asset at market price.

Let's find out what liquidity is in crypto, what events affect it, and how to calculate it. 

What Does the Term "Liquidity" Mean in the Context of Cryptocurrencies? 

If a crypto asset is highly liquid, transactions are executed quickly with minimal differences between the purchase and sale prices. The more popular a token or coin is, the easier it is to exchange it without financial losses. For example, Bitcoin and Ethereum are considered liquid assets, so transactions with them can be executed instantly.

If a cryptocurrency has low liquidity, it is more difficult to find a buyer or seller. In such cases, even small transactions can significantly affect the exchange rate. This is more common with little-known or new tokens. 

Why Is Liquidity Important in the Cryptocurrency Market? 

The ability to easily buy and sell an asset is a key indicator of the convenience and security of trading. It reduces the risks of price manipulation, simplifies the analysis of real supply and demand, and allows for more accurate determination of real asset quotes. 

For crypto owners, this is crucial: high liquidity helps them execute trades faster, minimize slippage, and plan their strategies with more confidence. 

What Metrics Are Used to Assess the Liquidity of Cryptocurrencies?

To determine how liquid a particular cryptocurrency is, pay attention to the following indicators: 

  • Trading volume — gives an understanding of the number of coins bought and sold over the past 24 hours. 
  • Spread — the gap between the most favorable purchase and sale prices of an asset. 
  • Volatility — reflects the degree of price change over a specific period. 
  • Market depth — allows you to find out the volume of orders at different prices from buyers and sellers. 
  • Exchange support — means that the cryptocurrency is listed on popular trading platforms.

All this data can be found on popular analytical services: CoinMarketCap, CoinGecko, CryptoCompare.

Key Factors Affecting the Liquidity of Digital Assets

Now that we have figured out what cryptocurrency liquidity is, let's discuss in more detail the indicators that affect it.

Trading volume as the main indicator

This indicator gives an understanding of how much cryptocurrency is exchanged over a specific period (most often over 24 hours). High trading volume means that there are many transactions on the market, so you can quickly buy or sell tokens at a value close to the market price.

For example, Ethereum's average daily trading volume reaches billions of dollars. This indicates that liquidity is high, so orders are executed without delays or significant price fluctuations. At the same time, a rare altcoin with a volume of only a few thousand dollars per day can rise or fall sharply in price even after a single large purchase. 

The difference between the buy and sell price (spread) 

This refers to the difference between the best price you are willing to pay for a cryptocurrency and the optimal price at which you can sell it. A narrow spread indicates a minimal difference in price and shows that the market is liquid.

For example, a popular coin may have a spread of only a few cents. This is convenient for traders because they can quickly open or close positions with minimal losses. For rare tokens, the spread can reach several percent. In this situation, the transaction becomes more expensive and less profitable. 

Market participant activity and its impact 

When many users trade a cryptocurrency, it becomes more liquid. Activity creates supply and demand, supporting price stability. 

For example, the Binance crypto exchange has many customers, which ensures a constant flow of orders. If a token is only traded on a small platform with a limited number of users, it may be difficult for a trader to quickly find a counterparty for a trade. 

Participant activity helps the market remain vibrant and predictable, which is important for anyone planning to work with digital assets. 

Ways to Calculate the Liquidity of Cryptocurrencies and Exchanges 

For investors and traders, the popularity of the coins is just as important as the turnover of the exchanges on which they are traded.

How to determine the liquidity of a particular cryptocurrency?

  • Look at how many coins have been traded in the last 24 hours. If the volume exceeds tens or hundreds of millions of dollars, this indicates high liquidity. 
  • Calculate the share of daily turnover in capitalization. If 5%-10% of the total value of the cryptocurrency is traded daily, the market is active and liquid. 
  • Estimate the number of orders. Large volumes at several price levels indicate stable liquidity. You can find this data in the order book on the exchange. 
  • Pay attention to the spread level. The narrower it is (literally a difference of cents), the higher the liquidity and trading activity. 
  • Check how much the price changes when a large order is executed. Low slippage (less than 1% for trades of $10,000-$100,000) is a sign of good liquidity. This can be assessed by placing test orders or studying the exchange's historical data.

This analysis can be repeated for any tokens to compare them with each other.

How to assess the liquidity of a cryptocurrency exchange?

  • Assess the daily or weekly trading volume on the exchange. This data is available on aggregator sites and the official websites of trading platforms. Billions in turnover indicate an active market. 
  • Check the number of trading orders. The more orders are concentrated close to the current price, the easier it is to execute a trade without significant slippage. 
  • Pay attention to trading pairs. A large number of popular coins (BTC, ETH, USDT) increases liquidity and provides more options for trading. 
  • Find out if the platforms support market makers. Placing orders constantly ensures high liquidity.  

Examples of Cryptocurrencies with High and Low Liquidity 

The easiest transactions are with BTC and ETH. They are traded on all major exchanges, transactions take seconds, and volumes are measured in billions of dollars per day. Popular stablecoins, such as USDT and USDC, also have high liquidity, as their price is pegged to the dollar, and traders actively use them. 

Coins such as Dogecoin (DOGE), Dash (DASH), Chainlink (LINK) have average liquidity. They are in the top 100 by capitalization but are traded less frequently and are not always available on all platforms.

Low liquidity in cryptocurrency is typical for little-known memecoins and fan tokens. They can often only be purchased on certain exchanges. The trading volume of such assets is small, so transactions can be executed slowly and with significant price changes.

FAQ

1. How does low liquidity affect the market?

Low liquidity increases volatility. Transactions are executed more slowly, and prices fluctuate even with small trading volumes.

2. What factors determine the liquidity of cryptocurrencies?

The main factors are trading volume, the number of active orders in the order book, the spread, listing on trading platforms, and the size of the user base.

3. How can you tell the difference between a liquid and illiquid cryptocurrency?

A liquid cryptocurrency is traded on many large exchanges and has a high trading volume and a narrow spread. An illiquid asset is rarely traded, and its price can fluctuate significantly when transactions are made.

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