“Liquidity can be defined as the ability of getting your money back whenever required. Every asset class has a level of liquidity and the assets with the highest liquidity are the most desirable one. Crypto Market is highly liquid when we compare it with other asset classes, but within the crypto market, understanding the liquidity is highly important before investing.”
The Concept of Liquidity
Liquidity can be termed as the ease of tradability of an asset for cash without affecting the price of the asset in the market. In the crypto market, if there is not adequate liquidity for an asset or a coin, large sell orders of such assets lead to extreme volatility and price decrease for that asset. For example if you have $2,000 invested in Bitcoin and at the same time the same amount in a new cryptocurrency coin, the liquidity of Bitcoin will be extremely high when compared to the new coin.
This means that there are an adequate number of buyers and sellers in the market for Bitcoin, whereas far less for a new coin. Trading such new cryptocurrencies for cash would be much more difficult and might prevent the investor from trading with his own money.
The Importance of Liquidity in Crypto Market
The liquidity is a desirable trait for any market, but crypto market being highly volatile has its importance even more desirable:
Stabilizes the Volatility in the Long Run
If there is a high liquidity for an asset in a market, it will ensure that the asset’s price is stabilized over the long term even if it remains volatile in the short term. As Bitcoin has the highest liquidity in the crypto market, its price has been stabilized in the long term, no matter how volatile it is in the short term.
Prevents Market Manipulation
As the liquidity in the market affects the price of the cryptocurrency, high liquidity will ensure that the price manipulation can be prevented. There are big whales in the crypto market that can create fake large sell orders to crash the whole market. If there would be adequate liquidity for a cryptocurrency, their large sell off will not affect the crypto market to that extent. There are various rug pull scams executed in the past in which low liquidity was the reason that the investors were unable to withdraw their cryptocurrencies for cash that resulted in giving time to the scammers to run away with all the money.
Enhances Transaction Speed
The high liquidity of a cryptocurrency will allow for quick transactions during the trade as there would be ample buyers and sellers in the market. If there would have been low liquidity for a currency, there would have been an imbalance between the buyers and sellers that would have resulted in delays in the execution of the orders and even result in getting the desired cryptocurrency at a higher price later.
Disclaimer: The article is just to provide information and shouldn’t be considered as any financial advice. It is advisable to conduct thorough research before investing in any cryptocurrency.
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