The mechanics of a crypto liquidity crisis
The mechanics of a crypto liquidity crisis
In order to break down the mechanisms of a crypto liquidity crisis, we have composed ourselves with an expert for institutional markets, Chuck Lugay, head of the execution services at SFOX. sfox is known for institutional investors for its extensive order books, which are obtained from more than 30 top exchanges, OTCs and over 80 markets. Lugay has more than 20 years of institutional experience and has witnessed the important market fluctuations in the past two decades.
What is a crypto liquidity crisis and how does it start?
The definition is simple. A crypto liquidity crisis exists if the platforms lack the liquid supply of barres reserves and 1: 1 convertible stable coins that are needed to satisfy the demand without collapsing market prices.
It's a bank run.
and in the world of digitized assets, human behavior is no different. Like the real estate market crash in 2007/08, both followed a phase of hunting for returns with strong competition and little interest in risk -averse asset management. People like Chuck Lugay have observed the same behavior in several industries.
"I witnessed the market corrections in 2001. I witnessed the real estate disaster in 2008. I think that if you have had no such experiences in your professional career, you can open up to such big problems," says Lugay.
"There are no specific guaranteed red flags that indicate a liquidity crisis, but you have to prepare for the worst. At the expense of the immediate return, what you do now. But I would almost lose a small amount of money today than to lose half of my equity in the entire portfolio because I have not practiced good hinging strategies at the moment. Don't make it because you didn't really secure yourself, ”said Lugay.
How the liquidity mechanisms differ
While human behavior remains consistent across sectors, the mechanisms of a crypto liquidity crisis work differently. In crypto technology, very few recording ramps enable institutions to transfer large amounts of capital into and out of the market. Imagine as a new city with many high -rise buildings, but not enough motorways back and forth. Cryptoplatt forms have developed solutions that resemble an above -ground rail to reduce the overload of the market. They either tokens assets by holding an equivalent of 1: 1 in cash, or they have used algorithmically controlled monetary policy to maintain a 1: 1 bond. Like above -ground rails, these solutions help to transfer liquidity within the system, but do not offer a simple way out. You still need exchanges or withdrawal from StableCoin banks to get out of fully.
Terra/Lunas Vust was an example of an algorithmic 1: 1 tablecoin that crumbled due to poor architecture. Before his collapse, it was used by funds and stock exchanges as an important source of liquidity. But when it started to raise price binding, some of the biggest market makers could not act quickly enough to cover the liquidity requirement. And in a world of automated and decentralized Smart Contracts, prices collapsed to zero within hours. Fund with VAT in their balance sheet suffered from the consequences. And now there are several crypto credit platforms in front of bankruptcy and liquidation.
to say that this is a big deal may be an understatement. In a recently held webinar about the state of affairs at Krypto, Chuck said the following about today's market compared to previous Bitcoin cycles:
"I think the biggest difference in this cycle is the credit loss. We had a liquidity situation in 2017, but I don't think they had the systemic problem that you see today. We are on unknown terrain."
The procurement of the right liquidity of ramps and stock exchanges is the key to navigation and preparation for a market -wide crisis. Chuck explains that institutions prefer SFOX to individual exchanges because it does not limit access to the order book to one or two certain liquidity providers. Instead, SFOX has bundled and aggregated over 30 liquidity providers on a platform.
How aggregated liquidity providers can help during a liquidity crisis
Say an exchange in aggregated liquidity of sfox is overexposed. Chuck points out that investors can maintain a certain level of protection at the institutional level through the more than 30 additional liquidity providers. SFOX makes access easy because all activities are done internally. This includes treasury management and building relationships-which saves investors time and resources.
He even argues that if they want to get out during a liquidity crisis, institutes can avoid some of the typical price slide that occur on stock exchanges. You can achieve this efficiency through intelligent order routers and specific algorithmic types of order.
Finally
There is no way to see a massive decline in a certain token, so institutional investors must ensure that they are thoroughly secured. First and foremost, liquidity bottlenecks often start with large market movements. In addition to environmental factors, market damping can occur if portfolio managers, hedge funds and institutional investors do not operate good risk management.
aggregated liquidity providers such as SFOX can offer deeper liquidity pools by falling back on more than 30 top exchanges, including the OTC trading tables in the industry, and over 80 markets.
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The contribution The Mechanics of a Crypto Liquidity Crunch is not a financial advice.