The market of cryptocurrencies He has been having a lean year. Despite having closed its second month in decline, Bitcoin is up more than 50% so far in 2023 while Ethereum has rallied more than 30%. Ripple and Grayscale victories at the Securities and Exchange Commission (SEC), spot ETFs, and other factors boosted digital assets. But not everything is positive.
Mads Eberhardt, cryptocurrency analyst Sax Bankhighlighted that the spot volume traded in cryptocurrencies fell “off a cliff” in the last year and a half, due to its “struggle” to “find its role in the current high interest rate environment.” “Also, after the cessation of operations of Silvergate Bank and SignatureBank, market makers can’t operate as efficiently as before,” he explains.
“Since the end of the cryptocurrency market run in 2021, its liquidity has dried up. As shown, the spot trading volumes of both coinbase like Kraken, the two main on-ramps of fiat money for most of the world have collapsed in the last two and a half years,” this expert details.
Specifically, last May the lowest combined trading volume of these two exchanges was recorded: around US$39,000 million. Two years earlier, this figure rose to $369 billion.
In general, Eberhardt stresses, “less volume equals less liquidity”. And today’s market reflects this principle. “From the beginning of this year to mid-June, Coinbase’s depth of market decreased by around 25%, while Kraken’s liquidity improved slightly, according to crypto data platform Kaiko,” he noted.
“The worst liquidity implies that there are fewer market participants and that less volume is needed to move the needle in terms of price, especially if larger sizes are being traded,” he added.
Cryptocurrencies: how low liquidity in the market impacts the price
According to the Saxo Bank strategist, this situation occurs when the market “needs it the most” especially after the contagion effect produced by the FTX bankruptcy. “During a contagion of this type, the market needs liquidity more than ever, so the abrupt shortage of liquidity in these cases has a very negative impact on the market, because it fuels excess volatility and an inefficient market when it is already in high alert,” he explained.
According to Eberhardt, the last effect of this contagion was observed in March with the drop in Silvergate Bank, Signature and Silicon Valley Bank, three banks related in one way or another with cryptos. Since then, the market has been “somewhat calm”, although the Danish firm’s expert refuses to rule out the possibility of more infections.
“Should this be the case, market participants must recognize that the liquidity could drop immediately off a cliff and act accordingly, as a drop in liquidity similar to the FTX collapse is not unlikely,” he said.
For this expert, this scenario is “especially feasible” if one takes into account that market conditions “are worse than at the end of 2022 due to the absence of Silvergate and Signature, through which market makers could deposit and Instantly withdraw dollars and euros to and from exchange accounts to benefit from arbitrage and subsequently maintain an efficient market.”
“Alternatives to Silvergate and Signature have emerged in recent months, but they are nowhere near as popular as the other two banks were. This means that current liquidity is even more at risk due to contagion and volatility,” he concluded.
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