Liquidity: what it is and how to measure it

Image of cryptocurrency coins

Liquidity is considered a key parameter of the cryptocurrency market and the assets that make up its turnover.  Namely  the balance of supply and demand depends on it, which makes some coins successfully sold, and others become outsiders of trading.

 

In this material, we will consider the types of liquidity, their main characteristics and methods of measurement, which will allow us to better understand the internal structure of the digital economy and the principles of its operation.

 

Liquidity concept

 

The most common definition of liquidity is that it is a measure of the change in the price of an asset in the market due to its trading.  In our case, liquidity is the ability of a cryptocurrency to quickly buy and sell in large volumes at a relatively stable value.

 

In fact, liquidity fixes the need of trading participants for one or another coin.  The higher the level of liquidity, the better it is bought and sold.

 

Types of liquidity in the crypto industry

 

As can be seen from the definition, liquidity is a rather voluminous concept.  It can refer both to a specific asset, for example, Bitcoin or Stellar currencies, or to the market as a whole.  The following main types of liquidity are distinguished in the crypto economy.

 

Market liquidity

 

In terms of the market, liquidity is determined by several parameters.  The key elements that market liquidity relies on are:

 

  •      the actual number of people involved in the turnover of assets;
  •      trading volume on all platforms, which is calculated over a certain period of time;
  •      general interest in market assets.

 

Thus, market liquidity is a measure of how easily and quickly it is possible to exchange assets on it.  For example, for the digital money market, liquidity is provided by cryptocurrency exchanges, where trade transactions are constantly conducted.

 

Asset liquidity

With regard to an asset such as a cryptocurrency, liquidity is considered to be the conditional simplicity of buying and selling it.  It is also influenced by a number of factors, the main of which are:

  •      the volume of electronic coins trades;
  •      the number of open and closed orders for the purchase and sale of cryptocurrency;
  •      spread and its change in a specified time interval.

To calculate the liquidity of an electronic currency, it is customary to use a daily timeframe.  With its help, you can get up-to-date data on the liquidity of cryptocurrencies and use them to predict price changes.

 

How liquidity is measured

Assets in the cryptocurrency market are characterized by a fairly high volatility (price volatility).  Fundamental and technical analysis methods are used in calculating their liquidity.  The first of them is determined by a wide range of factors for the success and prospects of the cryptocurrency project itself.

The second method of analysis is based on changes in the market price of an asset obtained using the data of special indicators (RSI, MA, etc.).

Analytical data allows you to get levels of cryptocurrency liquidity and use them to build a trading strategy.

 

Liquidity provision methods

Providing liquidity is actually helping to speed up the turnover of a cryptoasset.  The main providers of liquidity in the digital money market are independent online exchangers and centralized crypto exchanges.  The exchange activity brings together millions of traders who increase the trading volume and thus create liquidity for electronic coins.

 

Afterword

The liquid environment of the crypto market attracts investors of all sizes, which activate exchange trading and allow stabilizing the prices of digital money.  The use of liquidity data helps to correctly assess the prospects for investing in a particular asset, which makes changes in its value more predictable, and also significantly reduces trading risks.

Published: 2020-11-23