Crypto Market Making: What Is it, and What Role Does it Play?

The crypto market has grown phenomenally over the years to become one of the most important trading venues, spanning millions of investors and traders. This expansion was accompanied by additional services to make this sector more accessible and sophisticated.

Market makers (MMs) play a massive role in simplifying access to digital currencies and blockchain-based assets. Otherwise, buying and selling cryptos would take more time, cost more money and become less profitable.

Let’s explore how crypto market making works and contributes to the overall ecosystem.

Understanding Crypto Market Making

Market making (MM) is the continuous buying and selling of financial assets to populate more orders and create trading opportunities for other participants.

Crypto market makers increase the liquidity of a particular coin pair by opening bid/ask orders and waiting for a counterpart, leading to more trading instances in a decentralised exchange or centralised order book.

Despite the substantial flow within the cryptocurrency market, the demand is significant, and the speculations are so high that they lead to increased volatility and sharp price changes. Therefore, without these activities, finding a matching order and trading coins would take longer and incur higher fees.

Brokerage firms and exchange platforms integrate with crypto market making services to improve trading conditions, like low slippage and tight spread margins. Consequently, they can attract more clients to their software and utilise multiple liquidity connections.

This practice evolved over the years from being done manually, tracking price changes and underlying coin updates, to utilising cutting-edge automation tools to instantly adjust prices and maintain trade orders.

How Does it Work?

The process involves constantly placing and adjusting buy/sell orders on a certain cryptocurrency’s value. Providers set a spread between the bid and ask prices, which determines their profits, and adjust this ratio alongside trend changes and price updates.

Sophisticated algorithms are used to quickly adapt to price fluctuations, ensuring that orders stay competitive and get executed. Market makers also balance supply with demand and monitor trends to manage their risks and allow their clients (brokerage firms) to close trades at low slippage instances.

Market Making vs Liquidity Providing

MM and LP are often mixed together because both aim to make trading more efficient. However, liquidity provision works differently. Let’s review.

Liquidity providers work by supplying pools and venues where a certain asset or multiple assets are highly available. Centralised bridges connect brokers with investment banks, banking institutions and financial corporations. On the other hand, decentralised liquidity involves DeFi pools and yield farms connecting exchanges and providing access to currency pairs.

Market making entails actively buying and selling one or multiple assets by taking one side of the trade. This process increases pending trades in order books and makes transactions faster with minimum price changes.

Regulatory Overview

Crypto markets are heavily regulated in leading economies like the US, UK and Europe. Authorities have been pushing reforms and policies to minimise MM manipulation.

US Regulations

The US Securities and Exchange Commission requires strict reporting and registration at the SEC registry for brokers dealing with digital and decentralised assets. The US regulator has been cracking down on DEXs for trading unregistered securities, leading to dissatisfaction.

UK Regulations

The UK introduces proactive laws that protect consumers’ interests and combat money laundering. Moreover, the FCA implements strict measures for marketing and promotions to ensure transparent and fair competition.

EU Regulations

The EU has one of the most sophisticated policies in this regard. The Markets in Crypto-Assets Act came into force in 2023 with additional packages in 2024, providing a comprehensive framework for market maker brokers.

The MiCA regulations mandate disclosure requirements for issuers and service providers to protect consumers. The rules also address market manipulation and insider trading, which directly impact market-making activities.

Market Making Models

Market making in crypto is done using various protocols, technologies and mediums. These models are based on the end-user location, whether on brokerage software, exchange platforms, or institutional-level liquidity and financial service provision. Let’s review these approaches.

Centralised vs Decentralised

Centralised platforms like Binance and Coinbase utilise a dedicated executing engine where trades happen on a centralised server. Therefore, market makers provide liquidity directly on the order book and adjust the bid-ask spread to manage the process on exchanges.

On the other hand, decentralised market making happens using liquidity pools instead of per order. As such, liquidity is provided as a whole pool of coins and tokens, where users contribute by locking up currency pairs, and prices are algorithmically adjusted according to supply dynamics.

Manual vs Algorithmic

Classically, market making was manual, requiring a human trader to monitor prices and place orders actively. The process became more challenging and time-consuming as the industry developed with more inflowing participants. However, manual market making is more flexible and gives better control to institutions and decision-makers.

The overall industry growth led to the introduction of algorithms that automatically manage orders and adjust bid-ask spreads according to market inputs. These automated systems can handle high volumes and accommodate intense demand and supply changes. Consequently, trades are executed and settled much faster, and human error is minimised.

Designated vs Principal

Designated market making (DMM) involves asset issuers who provide liquidity and maintain stable conditions in exchange for incentives. These compensations may involve reduced fees or fixed payments.

DMMs are tasked with supplying liquidity to less active markets and improving trading conditions by reducing volatility and slippage. This provides more flexibility in adjusting the involvement level.

Alternatively, principals work independently, using their capital to buy and sell assets and profiting from spreads. They increase liquidity through loan provision that covers specific markets and assets, entitling them to higher returns at higher risks.

Why is Market Making in Crypto Important?

Cryptocurrency market making contributes largely to the efficient trading and exchange of a huge number of coins between millions of users. The dynamics make transactions more seamless and minimise the massive volatility happening from speculations and supply and demand fluctuations. 

Ultimately allowing brokers and service providers to operate efficiently and manage their liquidity flow better.

Liquidity Provision

By enabling other traders to find matching orders much faster and making crypto assets more available, brokerage firms can operate with less volatility impact.

Brokers and exchange platforms connect trade requests to MMs and LPs to find a matching order and settle the position as soon as possible.

Improving Trading Conditions

Populating more pending orders in the order book and increasing the number of ready-to-trade digital assets in DeFi pools allow brokers to access better trading conditions.

Slippage happens because execution engines take more time to find a matching order, while spreads widen when there is a disparity between pending bid/ask prices.

Therefore, market makers reduce the impact of these two elements by minimising the time needed to find a suitable market position and lowering the gap between existing spread prices.

Improving Market Efficiency

The crypto space is challenging due to its speculative nature and broadly fluctuating demand, causing most of its securities to change price unpredictability.

Therefore, increasing the crypto liquidity at a broker software or exchange platform makes trading faster and more seamless. This will result in more participant inflow and make the overall industry more efficient and sustainable.

Monetisation Strategies for Providers

Crypto market makers provide and maintain liquidity in exchange for money. They generate income from spreads or receive incentives from exchanges. Let’s review these monetisation approaches.

Spreads

The main source of income for MMs is the bid-ask spread, which is the difference between the price at which they buy the asset and the price at which they sell it to other investors. The continuous activity of placing “bid” and “ask” orders slightly above and below the market value enables them to accumulate revenue.

As such, when these positions are filled, they profit from the spread, which can be substantial in volatile markets like cryptocurrencies. Moreover, high trading volume and frequent fluctuations provide better earning opportunities to accumulate these small margins over time.

Incentives

Exchange platforms may offer special rewards to encourage liquidity, including rebates, fee discounts or fixed payments.

For example, a crypto broker may offer fee reimbursement on trades settled by market makers or share accumulated transaction fees made from high-volume trading pairs. Some exchanges encourage less popular assets and provide monetary rewards for supplying liquidity over rare or newly listed instruments to increase their availability.

Best Crypto Market Makers Strategies

So, how do market makers provide liquidity to trading venues?

MMs use three channels to supply and manage liquidity streams to brokerage firms and exchanges. Spread trading, arbitrage and DeFi pools. Each of these strategies serves different platforms and has different flexibility and control attributes. Let’s review them.

Spread Trading

Spread trading is a common ​crypto market maker strategy that involves placing simultaneous buy and sell orders around a crypto price. MMs continuously adjust the buying and selling prices as the market moves and earn the bid-ask spread as profits.

They maintain a small gap between the bid and ask prices to encourage more traders to place orders and increase volume while accumulating the tiny spread margin from each executed trade.

Arbitrage

Arbitrage is a complex trading system that takes advantage of price discrepancies between different markets. For example, if BTC has a different value between exchanges, a market maker can buy from the low-price platform and sell at another exchange for a higher price to earn the difference.

However, these arbitrage moments are tiny and quickly recover, requiring quick decision-making and accurate analysis. Therefore, many arbitrageurs use automated systems to find and capitalise on these trading opportunities.

DeFi Liquidity

Another method to provide liquidity by market making is through liquidity pools. In decentralised finance, investors and LPs can participate in yield farms and DeFi pools by supplying cryptocurrency pairs.

These pools connect with decentralised crypto exchanges to provide liquidity and fill “buy/sell” positions while compensating the contributors with a portion of the transaction fees. This approach relies on supplying a given digital coin or currency pair rather than order-specific bid and ask rates.

Advantages and Disadvantages

Making the market in cryptocurrencies is challenging and requires advanced control systems and risk management to avoid unwanted swings. However, the high trading volumes and volatility can provide lucrative opportunities.

Pros

• Improving Liquidity: MMs supply exchanges and trading platforms with assets to make trading faster and more accessible.
• Reducing Volatility: High market liquidity protects from sudden price changes by decreasing the impact of high-volume trades. 
• Better Price Discovery: Populating more buy/sell positions on order books and maintaining the spreads offer faster execution.
• Income Generation: Market makers can monetise from liquidity provision using various strategies to earn passive income.
• Attracting More Users: Increased market efficiency encourages more traders to buy and sell cryptocurrencies and improves the overall economic well-being.

Cons

• Volatility Exposure: Market makers expose themselves to sudden price changes due to natural dynamics, leading to losses.
• High Costs: The automated systems and algorithms used to monitor and adjust spreads and liquidity are pretty expensive.
• Impermanent Loss: MMs can potentially lose from unpredicted price changes after supplying crypto pairs in DeFi pools.
• High Competition: There is fierce competition from established decentralised MMs and algorithmic LPs, making returns unstable.

Top Crypto Market Makers

The cryptocurrency market making space is growing steadily. After reaching $1 billion in capitalisation in 2019, this sector was valued at $15 billion in 2021 and over $80 billion in 2023. As such, some of the ​biggest market makers in crypto have proven their value in supplying and stabilising markets.

Wintermute

Wintermute is one of the ​largest crypto market makers, specialising in digital assets and providing liquidity for over 200 crypto pairs across various exchanges.

The platform was created in 2017, offering over-the-counter trading services that cover spot and derivative instruments using cutting-edge trading algorithms that facilitate high-volume trading.

GSR Markets

GSR was created in 2013 with a portfolio that serves crypto projects, exchanges and miners. GSR markets offer DeFi liquidity, OTC trading, automated execution capabilities, crypto options and market making.

The company works with over 60 centralised and decentralised exchanges, connecting them with deep liquidity hubs and pools using robust technology that monitors and adjusts spread rates seamlessly.

Cumberland

Cumberland is the crypto MM arm of DRW, a renowned financial institution and market maker founded in 1992. Cumberland was created in 2014 to connect crypto platforms with financing pools and liquidity sources, facilitating trading of spot crypto assets, options and futures, crypto options and diverse NDFs.

Vortex

Vortex is an algorithmic market maker that serves decentralised and centralised cryptocurrency platforms, partnering with famous exchanges like Binance and MEXC.

The company offers NFT, tokenomics, and ICO advisory to over 180 web 3.0 projects, as well as market-making services that include crypto liquidity and trading desks.

Jump Crypto

Jump Crypto is the market maker platform of Jump Trading, a renowned trading firm established in 1999. The MM specialises in extensive research to offer deep crypto liquidity to the global financial market, alongside venture capital investments and tech infrastructure development.

Jump Crypto’s offerings include spot and derivatives trading for crypto platforms using high-frequency algorithmic trading technologies.

Conclusion

Crypto market making requires advanced technology to connect centralised and decentralised exchanges to DeFi pools and liquidity sources. Market makers continuously buy and sell digital assets, taking the counterpart in multiple pending orders to facilitate trading for other users.

This process makes trading faster, more efficient and with less slippage. However, offering these advantages requires advanced systems and algorithms that track updates and price changes to adjust the bid-ask spread.

Market makers make income from the spread differences and other incentives from supplying specific assets, such as less popular coins.