What is Slippage in Crypto Trading & How to Minimise it

Introduction

What is Sipplage & Why Does It Happen?

Slippage is a common occurrence in the world of crypto trading, and it can significantly impact trade outcomes. In simple terms, slippage refers to the difference between the price at which a trader expects to execute a trade and the actual price at which the trade is filled.

Slippage can work both in favor and against traders. Positive slippage, also known as price improvement, occurs when a trade is executed at a better price than expected, leading to potential cost savings or increased profits. On the other hand, negative slippage results in a trade being executed at a worse price than intended, potentially leading to higher costs or reduced profits.

Read More: Crypto Trading vs Crypto Investing

Causes of Slippage in the Crypto Market

1. Market Volatility: Cryptos are known for their high volatility, with prices often experiencing rapid and unpredictable fluctuations. During periods of high market volatility, the execution of a trade may be delayed, and the actual price at which the trade is executed can deviate significantly from the intended price.
2. Liquidity: Liquidity refers to the ease with which an asset can be bought or sold in the market without causing a substantial price movement. In highly liquid markets, there are enough buyers and sellers to absorb large orders without impacting the price significantly. However, placing a large buy or sell order in less liquid markets can lead to slippage as there may not be enough matching orders at the desired price.
3. Order Size: The size of an order can also influence slippage. When placing a large order in a relatively illiquid market, the sheer volume of the order can cause price movements as it gets filled. This can result in the trader paying a higher price for buying or receiving a lower price for selling, leading to negative slippage.
4. Network Congestion: In the case of decentralized exchanges (DEXs) or during periods of high network congestion, delays in order execution can occur, causing slippage. This is more common in times of heavy trading activity or when the blockchain network is overloaded.

How Does Slippage Work in Crypto?

As mentioned in the points earlier, slippage in the crypto market is primarily driven by market volatility and liquidity. Although these factors may seem straightforward, their intricate interplay within the fast-paced world of crypto can significantly impact trade outcomes.

To better understand slippage, let’s consider an example of volatility-induced slippage. Suppose you place a market order to buy Ether at $1800. However, your order gets executed at $1830 due to rapid price fluctuations. In this case, you have experienced negative slippage of $30.

Another factor contributing to slippage is low liquidity. In highly liquid markets, enough buyers and sellers can absorb large orders without significantly affecting the price. However, a substantial order can cause significant price shifts in less liquid markets. For instance, imagine you intend to buy a large volume of an altcoin on an exchange with low liquidity. If there are insufficient sell orders at your desired price, the trade may execute at a higher price, resulting in negative slippage.

Minimizing Slippage in Crypto Trading

Understanding slippage and the factors influencing it is the first step in reducing its impact on your crypto trades. Here are some strategies to help mitigate slippage while trading in the crypto market:

• Use Limit Orders: Unlike market orders, limit orders are executed at a specific price point, ensuring that you don’t pay more or receive less than your specified price. This protects you from unexpected price changes.
• Trade During High Liquidity Periods: Slippage primarily occurs due to low liquidity and high volatility. You can avoid these conditions by trading during high liquidity and low volatility periods.
• Select a Reliable Exchange: Opt for exchanges known for high liquidity and lower slippage rates. Exchanges with a larger number of participants tend to offer better liquidity, resulting in more efficient order execution.
• Adjust Your Slippage Tolerance: Some trading platforms allow users to set their slippage tolerance levels. By determining a maximum acceptable price difference for your trade, you can limit the potential negative impact of slippage.
• Break your large orders into small ones: When dealing with large orders, it is often advisable to break them into smaller ones to mitigate the risk of high slippage. When placing a large order, the sheer volume of crypto or tokens being bought or sold can influence the market, causing the price to move unfavorably. By breaking the order into smaller parts, the market impact can be reduced, and the risk of significant price deviation can be minimized. This strategy allows for a more controlled execution, potentially achieving better overall trade outcomes while avoiding substantial slippage costs.
• Pay higher gas, trade on L2-based DEXes: To minimize slippage on Decentralized Exchanges (DEXs), consider paying higher gas fees to prioritize transactions, trading on Layer-2 DEXes for faster and cheaper transactions, monitoring liquidity to select exchanges with deep pools, utilizing limit orders for precise execution, and trading during periods of lower volatility to avoid sudden price fluctuations that can lead to slippage. Remember, while slippage is common in volatile markets like crypto, it is not always a negative occurrence. With the right strategies and tools, you can effectively manage slippage and even turn it to your advantage.

Written By: Minal Thukral, Growth & Strategy at CoinDCX.