A Primer on Slippage, and How to Avoid It.
Slippage is a popular term in finance, but it’s often the least understood. Even if you’re aware of this pesky little market devil, you’re probably not doing the most to avoid it.
And that could be costing you a lot of money.
Traders in all markets suffer from slippage, not just crypto. This phenomenon is what happens when you place an order at one price, but this price changes before the trade is executed.
It only really happens when traders market order an asset. They see the price of an asset, and they simply click buy (or sell).
This is different from limit orders and stop-limit orders, but I’ll get to that in a bit.
In moments of volatility, slippage can be inevitable as prices move quickly. This is in part why some traditional traders prepare their active positions outside of scheduled announcements from, say, the Fed. Though trading during these times can be invigorating, it also comes with way more risk.
Much of this risk is chalked up slippage.
Liquidity also plays an important role. If a market is thinly traded, then it’s likely that large orders can swing prices dramatically, creating another source of volatility (and potentially blowing up your trade).
As you can probably tell, this poses huge issues for trading cryptocurrencies.
Unlike traditional markets, trading cryptocurrencies means traders are at the mercy of blockchain technology. If you’re only joining us now, this means grueling wait times.
Technical delays, low liquidity tokens, and whales lurking throughout means you could be facing huge slippage risk.
To avoid these threats, you need to start using limit-orders as soon as possible.
They won’t eliminate all slippage, but they are much safer than manual market orders. These kinds of orders are essentially “if-then” statements meant to define the parameters of your trade.
On order book exchanges like Kraken and Coinbase, you can tell the exchange to execute a trade only when a specific asset reaches a predetermined price. These trades apply to both buying and selling, but can also be used to help manage risk.
What’s more, if slippage does occur and the limit order is triggered but the price changes before executing, the trade will also be cancelled.
Pretty cool, right?
An example could be as follows: “Buy Bitcoin at $10,080. Sell Bitcoin at $10,550.” Using these parameters, you can create a simple buy-the-dip, sell-the-local-top strategy.
Of course, you’d also have to understand Bitcoin’s trading range. And herein lies the hard part.
Reading charts, balancing news, and understanding trends are some of the most difficult tasks in finance.