The cryptocurrency market is extremely volatile. The prices can change dramatically overnight and when this happens, the possibility of slippage increases. When there is a difference between the expected rate of a trade and the actual price of the trade, slippage takes place. While technically slippage can happen at any point of time in the crypto market, a highly volatile atmosphere could trigger this the most.
How Does Slippage Work?
Understand that slippage need not necessarily have to be negative or positive. Slippage simply refers to the difference in prices between the intended and the actual rate at which an asset sold. Thus, whenever a trade order gets executed, security always bought or sold at the best available rate as offered by the exchange. This price could now be better, equal, or less than the expected price of execution. Depending upon how the trade was carried out. The final price could further identified as one that had positive slippage, no slippage, or negative slippage.
Since the change in market prices could rapid slippage may even take place between the time when the order executed and when it finally complete. The term slippage used widely across different markets but the circumstances under which it occurs can differ greatly.
A limit order could help in avoiding negative slippage but there is always a risk that the trade may not executed at all if the price doesn’t reach the limit level again. This becomes even more tricky in cases when there are frequent market fluctuations. Because then, the time required to complete a trade is also much less.
Why slippage occurs in cryptocurrency trading
Crypto slippage can largely be under two circumstances: when there is low liquidity in the market and when the market is relatively more volatile. If there are rapid movements in the price of top cryptocurrencies such as bitcoin or Ethereum, the volatility depends on the frequency of the varying trade prices.
Volatility
Volatile market conditions trigger slippage when the price fluctuations occur so frequently. That the price entered at the time of placing the order is different from the price at which the same order executed. In the case of the cryptocurrency market, this can triggered at a much faster rate considering that a single news headline could change the market movements dramatically.
Liquidity Crypto slippage can also caused by the lack of liquidity in the market. If a cryptocurrency is not very popular or well known or if it is very new, chances are that it will traded frequently. Hence, the bid-ask spread could be very wide which will lead to dramatic and sudden price swings. This could happen in between the period when an order has entered to when it fulfilled.
It can be difficult to convert an asset into cash if it has low liquidity. Newer cryptocurrencies that may not enjoy a lot of popularity are rather less liquid primarily. Because there are not enough buyers in the market for them. This can be another reason for slippage as fewer buyers also means a lesser number of ask prices.
This implies that when an investor places an order, i.e, a market order. It will processed at the prevalent market price. So suppose your ask is $1.50 but there are no buyers for that rate. And you find only a single buyer who proposes a price of 50 cents. The cryptocurrency’s price will immediately drop to 50 cents. Since there are not enough buyers, just one transaction can cause movement in the market price.
How to calculate slippage
As we mentioned before, slippage does not always have to mean something bad. Only when the amount is negative do you get a poorer price than what you had hoped for. But if it is positive, you also get a better than expected price for the sale. Do note that a majority of trading platforms indicate slippage through percentages. Thus, you should be aware of how this calculation works. All you need to do is divide the dollar amount of slippage by the difference between the expected price and the worst possible final price and multiply the outcome with 100.
It would look like this:
$ of slippage / (LP – EP) x 100 = % slippage
EP = expected price
LP = limit price/ worst expected price
How to deal with slippage
Setting limit orders instead of market orders is the first thing you should start doing to avoid slippages in crypto trading. Remember that you cannot control the market price. And thus the orders will executed at the ongoing rate which could be lesser than you’re expecting.
Whether you want to set limit orders or market orders is a decision you must make after weighing your options. Market orders get executed for sure if you trading with popular cryptocurrencies. Your orders will undoubtedly processed as nearly always, there will an order that does not move in your favour. On the other hand, if you place a limit order. You can choose the best possible price for both your buying and selling calls. But there always a risk lurking somewhere that the order not get processed as the price requirements not met within the set timeframe.
In fluctuating market, there is greater chance that the investor likely to get different price than what was initially expected. Add low liquidity to the equation and you can be facing troublesome market movements. Where buyers and sellers find it hard to meet at a price point. Thus, it is essential for crypto traders to equipped with the right knowledge and skills to deal with crypto slippage. And learn how it calculated and how they can avoid it.
