The concepts of market makers and liquidity providers are fundamental to understanding the mechanics behind trading and the fluidity of crypto assets. Although these roles share the goal of enhancing market liquidity, they operate under different strategies. This article explains the difference between liquidity provider vs market maker.
What Do Market Makers Do?
At the heart of any crypto exchange lies the crypto market maker. This entity, which can range from high-frequency trading firms to individual traders, is critical in ensuring that trading remains seamless and efficient. The primary function of a market maker crypto exchange is to maintain a constant presence in the order book, offering to buy and sell a particular asset around the clock. It helps in achieving two main objectives:
- Ensuring liquidity. By always being ready to buy or sell, market makers keep the market fluid, allowing traders to execute transactions without significant delays or price impacts.
- Narrowing the spread. The difference between the buy (bid) and sell (ask) prices, known as the spread, is reduced thanks to the continuous activity of market makers.
Liquidity Provider: Understanding the Broader Concept
The term “crypto market making” often gets a lot of attention when people talk about how easy it is to buy and sell cryptocurrencies. But, it’s important to know that market makers are just one part of a bigger group called liquidity providers.
Liquidity providers include more than just market makers. They can be big banks, investment funds, or even individual traders who put money into the market to help make sure transactions go through smoothly. Here’s how they act:
Crypto market makers:
- Focus on making sure there are always buy and sell orders available so that trades can happen quickly.
- Make money from the difference in prices between buying and selling (the bid-ask spread).
- Actively place orders for both buying and selling all the time.
Liquidity providers:
- Include a broader range of participants like financial institutions, hedge funds, and individual traders.
- They help add money to the market in various ways, not just buying and selling like market makers. For example, they might lend money for margin trading or invest in pools of funds on DeFi platforms.
- Might not always be looking to make a quick profit from the bid-ask spread. Their actions could also be based on long-term investment strategies or a desire to support the market of a particular cryptocurrency.
Market making in crypto is essential in maintaining market liquidity and narrowing the spread, which benefits both traders and exchanges. Crypto exchanges, in turn, encourage both market makers and liquidity providers to stay active by offering them low fees and rewards.
