Crypto-Asset Market Structure

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Tyrone Campbell
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1 Crypto-Asset Market Structure Presentation to UC Berkeley Chapter of Alpha Kappa Psi March 21, 2018 Ian Weisberger, Co-Founder CoinRoutes

2 Outline I. II. Market Structure Overview A. 4 Types Of Markets B. Order Books explained C. Order Books in Crypto Markets Recent History of Crypto Market Structure A. December BitCoin goes Parabolic B. Jan Bitcoin trading normalizes; Ripple (briefly) explodes C. February Bitcoin survives its crash ; but Ether holds ground D. March - Bitcoin crash redux? III. Importance of Smart Order Routing (Trading across multiple exchanges) A. Best Execution means the best available price B. Displayed Liquidity is heavily clustered around the best bid and offer C. Thin Books make Smart Order Routing More important D. Smart Order Routing can find significant liquidity IV. Understanding Security Considerations 2

3 I. Market Structure Overview 4 types of market structures: Today s Focus 1. Order Driven Markets: Also called Centralized limit order books, these markets let clients enter orders to buy or sell at limit prices and display those orders as BIDs or OFFERs on screens or via APIs. 2. Quote Driven Markets: Also referred to as dealer markets, since the dealers can display where they are willing to buy or sell. Clients can t directly enter orders into the market, but can choose to trade on the quotes entered by dealers. 3. Auction Markets: Auctions are where participants can enter orders that get matched at a single point in time by an algorithm/process. 4. Negotiation Platforms: Markets where sophisticated investors can directly interact with each other via various mechanisms. For the purpose of this presentation, we will be focusing on Order Books, as they are the dominant method for the public to see Crypto prices 3

4 I. Market Structure Overview Order Books Explained Best Bid: the highest price that buyers are willing to pay Best Offer: the lowest price sellers are willing to sell Example: There are 3 Bids / Buy Orders There are 3 Offers / Sell Orders Best Bid BIDS OFFERS 10,010 10,000 9,990 10,015 10,020 10,030 Best Offer 4

5 I. Market Structure Overview Before: Order Books Explained BIDS OFFERS 10,010 10,000 9,990 10,015 10,020 10,030 Now assume a new buy order of 5 at 10,015 comes in: Best Bid BIDS OFFERS 10,010 10,000 9,990 10,015 10,020 10,030 Best Offer 5

I. Market Structure Overview Order Books in Crypto Markets There are a large number of crypto exchanges with order books, including 6 that offer trading in USD denominated Bitcoin.

6 I. Market Structure Overview Order Books in Crypto Markets There are a large number of crypto exchanges with order books, including 6 that offer trading in USD denominated Bitcoin. Each market has their own prices, despite situations where they could match with orders at other markets. This is called a crossed market and it means that the best bid is above the best offer There is no official price feed which consolidates data, but private solutions are emerging The next several slides show the CoinRoutes solution; our own Consolidated Best Bid and Offer or CBBO Consolidated Order Book: 3:40PM 3/18 6

7 II. Recent History December 2017: Bitcoin Goes Parabolic The charts on the right show the CoinRoutes CBBO from the week starting December 5th, when the media declared that Bitcoin went above 19,000. As you can see both in the week chart and the inset view of the peak, the best Offer for Bitcoin never went above 17,000. This means that an informed buyer never needed to pay more than 17,000. 7

8 II. Recent History January Bitcoin trading Normalizes These charts show the CBBO for Bitcoin from the first 2 weeks of January. Notice how much more in sync the markets are with each other, despite significant price volatility. In the zoomed in graph, the best bid does get 200 dollars beyond the best offer, but only for a limited time. 8

9 II. Recent History January Ripple explodes higher These charts show the price action in Ripple (XRP) priced in Bitcoin for the first 2 weeks of January. Notice the almost straight up move of over 50% in about an hour. The inset zoomed view shows that around half of the upward move took place while there were lower offers available on other markets. Notice also, how fast the markets came back into line with each other. 9

10 II. Recent History February Bitcoin Survives its Crash These charts show the price action in Bitcoin for the first 2 weeks of February. Notice how, despite the magnitude of the downside move, the best bid was only marginally higher than the best offer both on the composite and zoomed in view of the bottom. This indicates a much more organized sell off than the media portrayed. 10

11 II. Recent History February Ether holds its own through the Crash These charts show the relative price of Ether vs Bitcoin for the first 2 weeks of February. Ether had outperformed when Bitcoin rallied and, for this fall, managed to hold its value relative to Bitcoin well. This chart shows a gap during a period when a major exchange had an outage, and failed to update its quote. 11

12 II. Recent History March Is Bitcoin Crashing again? These charts show the price of Bitcoin for the first 2 weeks of March. Notice how, during the zoomed in graph of one of the largest steep falls in the price, how much closer the bids and offers are. This indicates a maturing market, with more participants and better liquidity. 12

III. The Importance of Smart Order Routing Best Execution means best available price Despite the maturing markets, there is still a need for investors to trade across all available markets to get the

13 III. The Importance of Smart Order Routing Best Execution means best available price Despite the maturing markets, there is still a need for investors to trade across all available markets to get the best price. In this example, our software compares trading optimally across exchanges to buy 100 Ether (in Bitcoin) vs buying it on a single exchange. It shows that an investor could have saved 0.43% by smart routing, which is a typical savings for a heavily traded crypto-asset. 13

14 III. The Importance of Smart Order Routing Displayed Liquidity is heavily clustered near the best bid and offer. The graphic on the right, shows this in equities, based on a 2013 paper from Two Sigma* As a result, orders that are too large for the order book have exponentially larger price impact the larger they are, since there is progressively less liquidity to lessen the impact.. In Crypto-assets, as the next slide shows, this is readily apparent * e% pdf 14

15 III. The Importance of Smart Order Routing Thin books make Smart Order Routing more important. In this example buying DASH in Ether, savings vs a single exchange grow by over 15 times when buying 3 times the quantity. 15

III. The Importance of Smart Order Routing Smart Order Routing can find significant Liquidity This example, using a Smart Order Router, shows that a purchase of 1000 Bitcoin ($8 million), can be done

16 III. The Importance of Smart Order Routing Smart Order Routing can find significant Liquidity This example, using a Smart Order Router, shows that a purchase of 1000 Bitcoin ($8 million), can be done for less than 1%. While it shows a 1.15% savings vs one exchange, since most orders of this size are handled by OTC desks that routinely charge 2% or more, this shows how technology is going to lower trading costs overall. 16

IV. Understanding security considerations In Crypto, if you lose it, it is GONE! This means: 1. Many exchanges consider their security solutions as an integral part of their offering. 2.

17 IV. Understanding security considerations In Crypto, if you lose it, it is GONE! This means: 1. Many exchanges consider their security solutions as an integral part of their offering. 2. Until secure custodial solutions emerge, the market is likely to remain fragmented as investors stick to individual exchanges they trust. 3. Vendors can help, BUT, when using vendors, traders should maintain complete control over their wallets and keys. 17

CRYPTO CONFUSION, WALL STREET DELUSION

April 2018 CRYPTO CONFUSION, WALL STREET DELUSION After 30+ years of Wall St experience, I took the plunge into crypto last year to start CoinRoutes with my son (his idea & code) to automate crypto trading