Crypto order books are somewhere between common knowledge and a best-kept secret, depending on which traders and analysts you are talking to.
But what data can you find in a crypto order book? Why are they so important? Today, we will tell you what you need to know about order books, how they work, and why they matter.
What is a crypto order book?
First of all, we had better tell you what a crypto order book is. If you are dealing with cryptocurrency, then the chances are you’ve gone to a crypto exchange to get hold of it. Now, pretty much every centralized exchange (CEX) and even some decentralized exchanges (DEXes) will have an order book.
This means that you’ll have worked with an order book, whether you realize it or not. Anyway, an order book is a list of buy and sell orders for crypto that changes on a real-time basis, based on what is happening on the exchange.
The buys and sells will be listed by price, and because it shows what is being bid on and when, it lets people know the supply and demand for the cryptocurrency in question at any given time.
What information does a crypto order book have?
That’s all very well and good, but what else can an order book tell you? Well, it can let you know how deep a market is, with information about the number of orders at different prices. It can help you find potential support and resistance price points, which can help you understand where people are entering and exiting the market.
This, in turn, can help you create a trading strategy. It can even show you a market’s liquidity, or how easy it is to buy or sell at particular prices without changing how much the crypto costs. In other words, an order book is something that is very useful for crypto traders.
Bid-ask spreads
Whether you’re trading in an old favourite like Bitcoin or you are digging into the market to find a new crypto to get involved with, every order book is split into two columns. There are bids, or potential buying prices, and, depending on which order book you are looking at, either asks or offers, which are potential selling prices.
With that in mind, the bid-ask spread is a key piece of order book data. This is the difference between a bid and an ask. So, if a crypto has a highest bid of $100 and a lowest ask of $150, then the spread is $50. The spread tells us a lot of things.
For example, a low spread suggests a liquid market that a lot of traders are getting involved with, while a high one indicates either low interest, high volatility, or a very quiet market. Similarly, spreads get smaller in stable markets, while they grow during times of uncertainty, so the size of the spread can tell you an awful lot.
Order imbalance
Unless a market is in a rare moment of equilibrium, the chances are that things will be moving in one direction or another. An order book can show you something called order imbalance, which can be a very useful piece of information.
To put it incredibly simply, order imbalance can show you that there are more bids than asks, which suggests the market is bullish, or there are more asks than bids, which indicates bearishness. One word of warning, though. There are different types of order imbalance.
You’ve got static imbalance, which shows where the market is at a given point in time, but there’s also dynamic imbalance, which gives an idea of how the imbalance changes over time. As you might expect, the two kinds of imbalance can tell different stories, so make sure you know what you are getting into.
Order depth and liquidity concentration
Two things that are different but are related in order books are order depth and liquidity concentration. Order depth is, basically, the amount of crypto you can buy or sell without dramatically affecting its price. Meanwhile, liquidity concentration is where the most bids and asks are centered.
This is important because it helps a trader counteract the order depth by either potentially pushing the price up or down by entering or exiting at certain points.
Going back to order depth, you can avoid someone trying to change the price by avoiding places with little order depth. Also, order depth can show you where the liquidity lies, which is always useful to know.
Spoofing and how to guard against it
Finally, we have to talk a little about how cryptocurrency order books can help protect traders against some pretty deceptive practices. Although spoofing is illegal in traditional stocks and shares trading, it can be a grey area in crypto.
Basically, spoofing is when someone places a significant order and then cancels it after it has already started to affect the price. It can work in both buying and selling. However, order book data can raise some red flags that could, hopefully, protect honest traders.
For instance, a large order that appears out of nowhere near a psychologically important round number could well be a spoofing attempt. Since this should appear in a live order book, traders can work around this and adjust their strategy.
If a so-called price wall – an order large enough that it slows down price movement – keeps appearing and disappearing, that’s another example of this kind of market manipulation.
Traders who work with high-liquidity cryptocurrencies, examine the flow of orders and confirm volumes, and see whether or not orders have been there for a while or if they’ve just popped up, are less likely to be victims of spoofing.
