Is there a correlation between liquidity and volatility?

[rat03gopoh]

High liquidity does not always cause high volatility too. For example stablecoins trading pair, here. https://www.bybit.com/en/trade/spot/USDC/USDT
You can see that both have enough liquidity to handle a total of over $3m in conversion value.

A definition that I found is that liquidity should not affect market prices. https://www.investopedia.com/terms/l/liquidity.asp

Liquidity refers to the efficiency or ease with which an asset or security can be converted into ready cash without affecting its market price.

[1715229975]

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[1715229975]

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[bluebit25]

I will look at the trading volume of those products to talk about volatility and liquidity.

Because here the OP is talking about the nature of time, not comparing over a wide enough period, with large markets such as gold, forex,... it is almost a part of the economy, so it is almost calculated. Drill bars immediately regardless of when you have large volumes of trades, and when those trades are large, then forced volatility will occur.

Returning to crypto, the truth is that we also understand that this market still belongs to the field of venture capital in the eyes of even large funds, although its potential is also being accepted, but the journey to achieving large-scale statuses such as stocks, gold,... will take a lot of time. That's why we hear a lot about an organization being able to manipulate prices in this market, they can easily direct behavior through news that directly affects excitement/fear also market participants.

[tjtonmoy]

Although a market with significantly high liquidity typically has less volatility, this is not always the case. Depending on many variables, including investor sentiments and market conditions, the relationship between liquidity and volatility can change. Liquidity is something that indicates that we can buy that asset and not affect the price too much and volatility is how fast the price can change for an asset.

Despite having similarities, they are different and they complement each other very well. So you can take it as you want. They have different meanings. One could be used for the short term while the other one could be used for the long term. It depends on the assets buying and selling status.

[merekamo]

As we understand, liquidity refers to the rate at which you can easily sell an asset or investment and convert it to cash (this is the best way I understand it). Some investments include stocks, cryptocurrencies like Bitcoin, real estate, high-end wristwatches, and more. Bitcoin is highly liquid because at any time of the day, year, or at any place I am, I can easily sell my Bitcoin for cash. However, Bitcoin and other cryptocurrencies are also very volatile compared to other assets or investments. Yes, they are liquid but not necessarily non-volatile. Can I, therefore, conclude that the higher the liquidity of an asset, the higher its volatility?

I don't agree. because both it different. If high liquidity means buying or selling an asset without significantly affecting its price, and volatility refers to the rate like price increases or decreases. and if highly liquid assets like btc can be bought and sold easily. So, it not conclude that liquidity leads to higher volatility. Same factors like market sentiment, economic issue, and political events can contribute to asset volatility.

[NilsSubstack]

I would definitely say "no" on this assumption, if this assumption was indeed correct, thus high liquidity leads to high volatility then Bitcoin and Ethereum would be some of the most volatile crypto assets in existence.

Some months ago I've written an article on how to correctly apply the use of correlations into crypto trading and hedging strategies:

https://open.substack.com/pub/nils89/p/the-importance-of-correlations-in?r=2qzuk0&utm_campaign=post&utm_medium=web

[SmartGold01]

Can I, therefore, conclude that the higher the liquidity of an asset, the higher its volatility?

Wrong but we are all leaning, what I am expected to say about liquidity and volatility..
First lemme start with the volatility; this refers to how an assets can instantaneous dropped/increased in price ( changing ratio of effects)..
While liquidity refers to as the total amount of fund being put into an assets to enable a continuous buying and selling. This is mostly provided by the project owner or anyone who is financially enough to provide liquidity to coin/token.
There could be liquidity in bitcoin Price that doesn't mean it won't drop but technically when looking from the other way we can say it both affect each others because when there's any bad news about bitcoin instantly you would see bitcoin declining in price immediately other coins following as well.

[icalical]

I agree with the saying that the higher the liquidity, the higher the volatility.

I tend to disagree with this, I think it's the opposite Higher Liquidity usually result in Lower Volatility, with more buyers and sellers, creating more tighter price gap in the order book, meaning the price movement will be less compared to lower liquidity when the price of order book will usually broader. But it also will depends on how decentralized those liquidity were, if the assets have high liquidity but it was owned by small amount of people, I think it will also have different effect.

[oktana]

I agree with the saying that the higher the liquidity, the higher the volatility.

I tend to disagree with this, I think it's the opposite Higher Liquidity usually result in Lower Volatility, with more buyers and sellers, creating more tighter price gap in the order book, meaning the price movement will be less compared to lower liquidity when the price of order book will usually broader. But it also will depends on how decentralized those liquidity were, if the assets have high liquidity but it was owned by small amount of people, I think it will also have different effect.

Of course there are other things that determines how volatile a cryptocurrency (Bitcoin) is, but I think liquidity still matters because, like I explained; if Bitcoin weren’t so liquid as it is, what do you think about the volatility? It’ll definitely be reduced because lower/no liquidity gives a more stable price and inability for price manipulation. But when it’s very liquid, people can easily make trades that then adjusts the price, and price manipulation wouldn’t be difficult as well.

[Captain Corporate]

I do agree that liquidity matters a lot and low ones could cause a lot of issues without a doubt, volatility is nice when trading but sudden movements are not nice. I get that dropping %5 one day and then going up %3 the next day type of things are fine for trading, and should be important, but that doesn't mean that we are going to end up with a result like that easily, its going to be a trouble one way or another. Because the low ones could have %40+ drop one day and %200 increase another, that's not acceptable. So all I think is that volatility is good just a bit. Its like vaccines, you make the body sick just tiny bit enough to get it used to it so that when it gets sick for real it knows what to do and ready.

[Darker45]

I'm not an expert on this but, no, I think your conclusion is wrong. By the way, and first off, Bitcoin isn't really very volatile, at least not consistently. There are times when it's moving sideway as if nothing happens in the market.

Anyway, I don't agree with your conclusion because volatility is normally attached to lack of liquidity. So, if there is any correlation, I think the correlation would be a negative one, not positive. Meaning, the lower the liquidity, the higher the volatility.

There's probably no universal formula for this, however. Gold, for example, is generally stable, although it could also be volatile in shorter time frames, but it's highly liquid. On the contrary, Bitcoin is also liquid but generally volatile. On the other hand, other cryptocurrencies that have low liquidity can be highly volatile. This is the reason why so many altcoins are delisted from exchanges, because of very low liquidity, which makes them prone to manipulation resulting to high volatility.

[Cryptomultiplier]

Liquidity can happen if anyone investor or trader decides to do so for maybe FOMO or volatility of market season or for good investment reasons.
Volatility is thus a factor that could effect liquidity of assets for investors. It is not in a direct correlation to liquidity.

Even in times when the market is volatile, an investor or trader can choose to still HoDL and wait it out, possibly they still got plans or want it to rise more than it was, before considering liquidation.

[hatshepsut93]

I doubt that more liquidity can fix Bitcoin's volatility, because Bitcoin's volatility comes from the lack of fundamentals that are easy to calculate. Bitcoin's value is just a guess, a feeling, that's why it changes so often. If a stock of some company randomly jumped or crashed by 30%, a lot of market players would take the opportunity to counter such irrational movement. But with Bitcoin no one really knows if it's oversold or overbought.

So higher liquidity doesn't change much, it would just mean more players playing the guessing game.

[poodle63]

I doubt that more liquidity can fix Bitcoin's volatility, because Bitcoin's volatility comes from the lack of fundamentals that are easy to calculate.

I have my opinion that I think bitcoin volatility strongly correlate with its market capitalization, i can roughly think that its the same as gold, but the bitcoin market capitalization is still lower than gold by significant margin but seeing if bitcoin gonna be linearly growing from here on it might come as close as gold and also might have similar volatility in the future.
added with the fact that cryptocurrency market right now is getting bigger and bigger, but still can't deny the fact that there might be some other factors such as the general majority of investors of bitcoin that are really like to speculate while that on its own is not really a problem might be the cause of the increased volatility compared to the other investment instruments.
but we should also see that many of big investors, institutional investors, even pension fund are investing heavily in bitcoin that I think it will be the cause of stabilization of volatilty of bitcoin in the future.

[bettercrypto]

Yes, there is an increase in liquidity and a decrease in volatility. Aside from this, there is also a reduction in the influence of its price. It can also help to level out price fluctuation and reduce volatility. I'm referring to a positive correlation.

Whereas negative correlation is the inverse of positive correlation in terms of liquidity and volatility, there is also a disruption in the market, such as the negative news that we will experience, which is news that has a brief increase in the volatility of its price in the market.

[Porfirii]

If we are talking about crypto markets, you correctly said that, the lower the liquidity, the easier to impact in prices by buying or selling smaller quantities. You only have to watch those small caps that value less than a cent and in a few days go like x100 (and viceversa). The problem is that when you try to liquidate you may be dumping the price against your own interest: you sell for a good price the first units but very cheap the last ones.

Take for example MODEX: ask was at less than 1 cent in Bittrex (btw, the exchange recently announced that they are closing, so hurry up and withdraw!!) like two months ago, but yesterday $0.23. Easy maths, it went more than 23x in two months. And in 2021 did the same, and then dumped that hard, too. This proce action is inconceivable for high caps.

[slapper]

You were right when you said that liquidity is about how quickly you can turn assets into cash. Stocks, cryptocurrencies, and even those fancy watches are all caught up in this storm. The catch is that liquidity doesn't always mean instability is welcome. Think of it like a crowded market; lots of buyers and sellers make for smooth transactions (high liquidity), but does it necessarily mean prices will swing wildly (high volatility)? Not really! Bitcoin is definitely a roller coaster, but take a look at large-cap stocks. They're liquid, but they tend to be more safe than your volatile cryptos. Because there are always buyers and sellers, high liquidity can mean more steadiness. It's like a safety net against wild price swings

Volatility isn't just about liquidity; it's about uncertainty, news, market sentiment - a whole cauldron of factors! Look at real estate. It's not as changeable as other things, but it can change a lot, right? It has to do with the situation and the setting. Can you now say that more liquidity means more volatility? It's not that simple black and white

[AVE5]

I understand li liquidity to be the State of time an investor is stipulated to generate incomes through a trading effort of his assets while volatility is the possibilities of an Investors inability to predict an intime (future) ratios of the values rates of an assets due to the accessible flexibilities to fluctuations of assets demands.

[hatshepsut93]

but we should also see that many of big investors, institutional investors, even pension fund are investing heavily in bitcoin that I think it will be the cause of stabilization of volatilty of bitcoin in the future.

If they just buy and hold Bitcoin, it won't increase stability, because speculators will still control the price. To have lower volatility we need more traders that will create more market depth - they should put buy and sell orders so that moving the price by 5% or 10% would require billions of dollars.

Another thing that we should look at is high leverage trading and derivatives - it could be that it is creating volatility on the spot market by influencing them.

[Mauser]

As we understand, liquidity refers to the rate at which you can easily sell an asset or investment and convert it to cash (this is the best way I understand it). Some investments include stocks, cryptocurrencies like Bitcoin, real estate, high-end wristwatches, and more. Bitcoin is highly liquid because at any time of the day, year, or at any place I am, I can easily sell my Bitcoin for cash. However, Bitcoin and other cryptocurrencies are also very volatile compared to other assets or investments. Yes, they are liquid but not necessarily non-volatile. Can I, therefore, conclude that the higher the liquidity of an asset, the higher its volatility?

No, I would argue against high liquidity meaning high volatility. High liquidity means that there is a large number of buy or sell counterparts that would fill my order. It's not only about the number of traders, but also the quantity of traders. It could be that there are a lot of small buy or sell orders that would be filled by one single large trade and taking out all the liquidity from the market. Just because we can trade small amounts of cryptos all the time doesn't mean the exchange could handle a large order as well. Volatility comes into play when there are news coming out that have a big impact on the markets or economy. For example, the slow down of central banks to keep increasing rates means that risky assets become more attractive anymore. Many investors already expect rates to fall again next year to support the economy. When bonds and savings accounts don't offer interest rates anymore, investors will go back into stocks and cryptos. A constant rise or drop in prices doesn't mean high volatility, that comes from people taking profit and tryinh to get out of the market. Liquidity is people's willingness to trade and volatility is uncertainty and short term noise in the market.

[tygeade]

As we understand, liquidity refers to the rate at which you can easily sell an asset or investment and convert it to cash (this is the best way I understand it). Some investments include stocks, cryptocurrencies like Bitcoin, real estate, high-end wristwatches, and more. Bitcoin is highly liquid because at any time of the day, year, or at any place I am, I can easily sell my Bitcoin for cash. However, Bitcoin and other cryptocurrencies are also very volatile compared to other assets or investments. Yes, they are liquid but not necessarily non-volatile. Can I, therefore, conclude that the higher the liquidity of an asset, the higher its volatility?

No, I would argue against high liquidity meaning high volatility. High liquidity means that there is a large number of buy or sell counterparts that would fill my order. It's not only about the number of traders, but also the quantity of traders. It could be that there are a lot of small buy or sell orders that would be filled by one single large trade and taking out all the liquidity from the market. Just because we can trade small amounts of cryptos all the time doesn't mean the exchange could handle a large order as well. Volatility comes into play when there are news coming out that have a big impact on the markets or economy. For example, the slow down of central banks to keep increasing rates means that risky assets become more attractive anymore. Many investors already expect rates to fall again next year to support the economy. When bonds and savings accounts don't offer interest rates anymore, investors will go back into stocks and cryptos. A constant rise or drop in prices doesn't mean high volatility, that comes from people taking profit and tryinh to get out of the market. Liquidity is people's willingness to trade and volatility is uncertainty and short term noise in the market.

I do agree that it is not easy to keep liquidity and volatility in the same logic. I mean people willing to trade and people who are trading are quite similar sounding, but that doesn't mean it is true, it is quite different from each other and should not be considered in the same logic. I get that it may not end up being something that would be reasonable, but it is definitely something totally different because it is not how that works at all, it is totally different from what people think it is about.

Liquidity means there are a lot of buyers and sellers, not buying and selling at the moment, those people put out orders and the trader comes in and trades based on that, when someone puts orders that is not traded, they create liquidity, when someone comes in and trades on that, then it becomes volatility.