Read on to learn what is liquidity in the context of cryptocurrency. We will also explore how it’s measured and how it determines the value of a coin.
What is liquidity and how is it measured?
Liquidity describes the rate at which cryptocurrency can be bought or sold on the market.
To measure the liquidity of a given cryptocurrency, one should look at 3 important metrics in the cryptocurrency market:
- 24-hour trading volume – higher is always better.
- Exchange availability – the more exchanges that list a particular coin, the higher the liquidity.
- The bid-ask spread – the difference between the lowest selling (ask) price and the highest buying (bid) price. The lower this number is, the more liquid the coin.
What conclusions can we draw when looking at a coin’s liquidity?
When looking at cryptocurrencies, we can conclude that high-liquidity coins are more popular and much more interesting for traders.
This is because they allow for a quick entrance and exit in the market, which is important in the high-volatility environment of cryptocurrencies.
When investing in low-liquidity cryptos, you might be unable to sell them at your asking price.
Furthermore, if the price of a low-liquidity coin starts dropping, and you can’t sell it on an open market, you will end up with losses.
Therefore, remember to DYOR and ensure that your coin has at least some liquidity before making a purchase.
Exchange liquidity vs Coin liquidity
Now that we know how a coin’s liquidity can impact your investment, let’s look at the liquidity of exchange platforms.
A liquid exchange is a platform with many active traders.
The coin’s liquidity won’t mean much if you are trading it on an exchange with low liquidity and can’t find investors to trade with.
A good indicator of an exchange’s liquidity is its 24-hour volume and the number of cryptocurrency pairs it supports.