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Liquidity is an essential concept for financial markets, which is associated with the stability and efficiency of industries like stocks, commodities and cryptocurrencies. Many relevant concepts stem from the liquidity basics, such as liquidity aggregation.
Liquidity aggregation entails compiling several currency pairs available for trade in the finance market and offering them to the broker or the dealer. Thus, executors receive the best rates in the market, and brokers offer the best trading conditions, such as minimum slippage and reduced spread range.
Liquidity aggregation pools are created by large financial corporations and exchanges that offer advanced liquidity options for market participants to provide quick execution ratios and offset volatility impact on market price. Liquidity aggregation plays a major role in the crypto industry, which we will discuss in the following.
The Importance Of Liquidity Aggregation In Crypto
The crypto market is highly volatile, where major cryptocurrencies change their price several times a day. This increased price action can highly damage traders’ open position if unexpected movement happens in the market.
Therefore, liquidity offsets this high volatility by amplifying the available assets in the market and minimizing the impact of supply shifts on the overall price. For example, large corporations and crypto whales who accumulate large capital and cryptocurrencies can execute massive trading orders, severely change the supply and demand level and flip the market upside down.
Such activities are undertaken by significant key players who try to manipulate the market in their favor. For example, a large investor can sell a huge amount of cryptos, increase its supply in the market, and lower its price, then repurchase the assets at a decreased price to resell them at a higher price after causing sharp market dips and surges.
Therefore, liquidity aggregation prevents such scenarios. Moreover, aggregators lower the entry barriers for new small businesses to enter the market and compete using attractive deals and trading costs.
Many crypto exchanges and organizations use this approach to offer fair opportunities for traders and stabilize the crypto market. However, this is not the definitive answer to combat volatility, and it has some advantages and disadvantages.
Advantages & Disadvantages of Liquidity Aggregation
Liquidity provision is important for the market and participants alike to smoothen the market dynamics and help execute trades efficiently. Here are some pros and cons of aggregation in the crypto industry.
Pros
- Aggregation increases market liquidity and depth, providing the best trading conditions at lower slippage risk and tight spreads.
- Faster order execution because of the elevated liquidity where assets are highly available in the market and enough participants are willing to take the other side of the trade.
- Mitigates the impact of crypto whales and volatility on the crypto market by maximising the supply level.
Cons
- Security can be an issue because transactions are not peer-to-peer anymore and have to go through an intermediary, which may carry some security concerns.
- Liquidity aggregation may require connecting your crypto wallet directly to different decentralized exchange platforms, which can compromise your wallet information and safety despite the advanced security measures these websites provide.
Features of Liquidity Aggregation
Aggregating liquidity is crucial to stabilize markets, especially cryptocurrencies, which are characterized by having high volatility. Liquidity aggregation has several functionalities that allow it to enhance market efficiency and trading conditions.
Smart Order Routing System
The SOR system checks various liquidity aggregations instantly to find the best trading options and opportunities and offers the best conditions that ensure market efficiency. The process scans multiple sectors simultaneously and finds the best trading conditions that minimize slippage and spread.
Once a trader puts in a market order request, the SOR system checks various markets and industries to find the best trading potential.
Algorithmic Trading
Automated trading tools have gained popularity over the past few years, allowing investors to explore market opportunities without dedicating their full time to the process of monitoring, executing and managing settlements. Thus, algorithmic trading is done using bots and automated systems that execute market orders following conditions inserted by the user.
This automation option tracks various markets and intermediary channels to find the best trading opportunities at low fees and high execution speed. Moreover, it saves the trader’s time searching crypto exchanges one by one because it checks and scans almost instantly.
Consolidation of Multiple Order Books
Liquidity aggregators consolidate several order books simultaneously and compile pending orders with buy and sell orders that are waiting to be settled. This process puts together big data pulled from a huge number of order books and gives the trader an insight into the market dynamics and activities.
Additionally, aggregators consolidate extensive orders from the books and track key technical indicators to identify trends and certain market events to provide a comprehensive understanding of how the market works and the relationship between certain events and price actions.
Who Are Liquidity Aggregators?
Liquidity aggregators vary between large financial corporations, decentralized crypto exchanges and significant institutional investors. These entities hold massive amounts of crypto assets and capital and are able to influence the market through their activities. Retail and corporate investors aggregate liquidity to benefit themselves and the entire market by increasing market efficiency and effectiveness.
Crypto liquidity providers vary, and the best of them are those who provide deep liquidity without asking a lot in return, such as interest rates or commissions.
Crypto exchanges are the most common liquidity aggregators because they hold a massive amount of crypto assets and liquidity pools, which can benefit traders and other market participants. These platforms use cutting-edge trading models like crypto arbitrage model, algorithmic trading, and copy trading. Moreover, these exchanges utilize advanced crypto payment gateways to support fast transactions and payment processing.
Retail investors are a key component in this process, serving various businesses and individuals of all sizes. Therefore, they increase the trading volume and demand levels, which makes trading more dynamic and seamless.
Final Remarks
Liquidity aggregation is a crucial process for improving market dynamics, enhancing stability, and making trading more efficient. By consolidating order books and smart order routing, this process provides the best trading conditions with low fees and small spread ranges.
Several participants contribute to aggregating liquidity in the crypto market, making crypto assets more available and executing them at low slippage rates.
