Can a liquidity marketplace advance the crypto industry?

A two-sided liquidity marketplace just might be the catalyst that will drive the next wave of digital asset trading growth.

Two-sided marketplaces are more than a smart business model. These platforms can democratize access and promote widespread economic inclusion in previously inaccessible markets. They have worked wonders in myriad verticals already — e.g., stock exchanges — and the world of digital asset liquidity may now be fertile ground for this business model.

Successful new platforms bring together buyers and sellers who would otherwise be unable to connect, creating entirely new value streams for sellers who capture more revenue. Meanwhile, buyers gain access to new capabilities, creating a win-win for everyone involved. A CoreSight research indicated that revenue of two-sided markets such as Airbnb, Fiverr, eBay and Uber could exceed $40 billion by 2022.

Google’s AdSense is a great example of how a two-sided marketplace can create an entirely new source of value for buyers and sellers. Its solution benefiting both publishers and advertisers has helped accelerate the growth of a new business category and built an industry-leading business. The Google Ads advertising service collected $134.8 billion in 2019 (including AdSense as well as Google’s other advertising products). Over 11 million websites have become AdSense users (sellers). Google has generated new sources of demand for advertising inventory on high-traffic websites by making ad space accessible to legions of smaller advertisers (buyers), leading to higher bids, more ads and higher ad sales.

AdSense made it possible for websites of all sizes to monetize their audiences by easily selling ad space. On top of that, AdWords helped small businesses needing an easy way to advertise to gain fast access to a previously inaccessible world. What had once required a team of media buyers and big budgets for TV, radio or print promotion was suddenly achievable via a few clicks and affordable pricing.

Crypto’s unexpected challenges

The creators of cryptocurrencies such as Bitcoin (BTC) founded their creations in large part on a philosophy of financial empowerment. Bitcoin’s genesis as a peer-to-peer electronic cash system was designed to enable consumers to pay each other directly, accurately and securely via a blockchain’s immutable audit trail.

Bitcoin’s creator, Satoshi Nakamoto, probably didn’t foresee that in a little more than a decade, Bitcoin would achieve over a $200-billion market cap. Satoshi probably also wouldn’t have predicted the appearance of countless new cryptocurrencies, which have been accompanied by hundreds of digital asset exchanges worldwide where investors could trade digital assets.

As new exchanges have sprouted up around the globe — each built in a disconnected silo — market fragmentation has increased exponentially. Ironically, this market fragmentation has prevented liquidity aggregation even as the overall market capitalization has grown. As a result, exchanges today face deep challenges in guaranteeing price/time priority of orders, reasonable spreads and transaction speed. This liquidity bottleneck is a drag on digital asset trading growth.

All-access

Markets must necessarily mature and reach critical mass before a two-sided platform can arrive on the scene. Crypto trading today has arrived at this juncture: With more exchanges and more traders, the demand for liquidity has continued to grow.

I believe that a two-sided market-making platform will be the solution to this problem. Crypto exchanges depend on market makers to commit to buying and selling at pre-chosen prices. These orders add liquidity to the exchange, benefiting an exchange’s clients. Meanwhile, the liquidity providers (aka market makers) must have the means to commit the required trading volume and capital. Their reward can be high, as market makers have the opportunity to capture the difference, or the spread, between their lower-priced buy and higher-priced sell orders.

Market makers not only require capital but also need technology and trading expertise to inform automated trading algorithms. While market making could potentially be an attractive use of capital for smaller players, they are shut out because they either lack the capital, trading volume, or expertise to participate.

Just like AdSense, a two-sided market-making marketplace platform would enable traders, big and small, to commit digital assets to specific exchanges and trading pairs (like publishers in the AdSense model dedicating ad inventory). Meanwhile, exchanges “bid” on this trading volume with fees paid to market makers (like advertisers in Adsense). While market making has traditionally been the domain of full-time, well-capitalized professional traders, an AdSense-like two-sided marketplace can expand that domain to include skilled traders of virtually all shapes and sizes.

Market maker metamorphosis

What if a platform could enable savvy retail investors to serve as crypto market makers by connecting them with digital asset exchanges and/or asset pairs that need more liquidity? A well-designed two-sided platform can empower retail investors to diversify and participate in a vital market function previously unavailable to them.

In the future, a two-sided platform could enable exchanges and asset issuers to list their market-making opportunities on the platform, along with the corresponding maker rewards. Retail investors could place funds into a market-making account, allocate it to a participating digital asset exchange, and select their preferred trading pairs, such as BTC/USD.

As each exchange’s liquidity increases, their clients will enjoy better price discovery, trade execution and higher fill rates. Better execution may even help exchanges attract more institutional investors, creating a virtuous cycle of market growth.

Turning an investor or a trader into a market maker may seem like a tall order, but a well-designed, two-sided marketplace makes it quite feasible. It isn’t far-fetched to suggest that such an efficient platform can spark one giant leap forward for the digital asset ecosystem.

The views, thoughts and opinions expressed here are the author’s alone and do not necessarily reflect or represent the views and opinions of Cointelegraph.

Josh Li is the chief business officer of Apifiny — a fintech and DeFi startup building a new internet of financial services. Prior to Apifiny, Josh was an executive at Google where he led strategic partnership and innovation teams in both North America and APAC. He holds a BA degree from Harvard University in East Asian Studies and an MBA in Marketing from the Anderson School of Management at UCLA.

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