By Mario Gomez Lozada, Co-Founder, President and CTO at QUOINE

Liquidity is vital for a healthy market. Without liquidity, prices can fluctuate dramatically. Liquidity is useful for traders, but it is also highly desirable for exchanges. Cryptocurrency’s liquidity issue is a problem that needs addressing, and at Quoine we will tackle it head on with our Liquid platform, matching order books under the bonnet and pooling liquidity with external sources.

We want to see a highly liquid market where traders can buy or sell a cryptocurrency without affecting the price too much. Market liquidity is derived from the ability of the market to allow traders to quickly buy or sell a cryptocurrency. Liquid markets will always attract traders while illiquidity can have a negative effect on market perception and even stunt market growth.

Tight spreads reflect liquidity. The spread in an illiquid market can be very high, increasing execution costs for a trader because the ability to buy near the bidding price is lost. Market makers are therefore an important part of the market because their market orders help to reduce the spread and maintain liquidity.

Illiquidity breeds risk

Manipulation can be rampant in illiquidity cryptocurrency markets. Large-volume traders are able to impact trading prices and potentially exploit these movements for their own personal gain. A trader, or traders, could accumulate a coin over a long period of time with the price staying relatively stable.

Once they have finished accumulating, they can execute a number of buys in short succession, rapidly raising the price as they fill the finite number of sell orders. This will falsely inflate the price and the trader can then sell off their accumulated coins at the new price. This is just one reason why liquidity is so important. So-called “pump and dump” groups regularly exploit this, causing hundreds of millions of dollars for those who get caught up on the wrong side of these schemes.

Illiquid markets also present a risk of traders experiencing price slippage. When a trader creates a limit order in an illiquid market, there can be a delay between creation and execution. During this delay, the price of the cryptocurrency can fluctuate, resulting in slippage.

This makes it risky for a trader to invest in a coin with low liquidity. If a trader places a large buy order, it will require multiple sellers to fill it. During the time waiting for others to fill the order, other traders will want to buy too. They will then raise the asking price so their orders are filled first. The trader will then have to compete with the raising asking price.

When a new token gets listed on an exchange, liquidity is normally at a low. You will often see the price dramatically fluctuate for a short time. This phase of a new coin being listed is a perfect example of the effects of low liquidity on the price of a coin. In this case, often when the liquidity improves, the price drops.

Big hopes for high liquidity

Institutional investors believe high liquidity is paramount for a market that they will invest in. They want to invest large sums of money, so it is essential for the markets they will be entering to be liquid enough to handle this. These investors require high liquidity to ensure a controlled buying price while allowing the ability to sell whenever required with a controlled selling price.

High liquidity is also desirable for exchanges. If exchanges are able to maintain high trading volumes on all of their trading pairs, their liquidity will be fantastic and their spreads tight. As a result, more traders will be attracted to the exchange, which in turn will bring more liquidity.

We recognise the liquidity issue and strive to address it with our Liquid platform. Liquid will significantly enhance liquidity and provide traders and institutional investors the best possible experience.

Our World Book can match orders from different currencies using our matching engine. A trade for BTC/SGY can be matched under the bonnet with a trade for ETH/SGY. The World Book makes the necessary conversions to allow traders to effectively execute their trades.

Eventually, the World Book will combine the order books from partnered exchanges, bringing together these liquidity silos and linking them together to create the ultimate liquidity network.

Liquid is almost here and you can sign up on Liquid.com to be the first to hear about when we launch our new exchange.