Does it shock you that it is technically potential for a $1 buy of an asset to shoot the market cap up by a trillion {dollars}, or for a $100 billion buy to not transfer the value by a single penny? Many misunderstand the mechanism that truly drives worth actions. Let me clarify.

Intro

Lots of people appear to have misconceptions like pondering if x {dollars} movement into an asset, its market cap will go up by x {dollars}. In truth, it’s not potential to find out how a lot cash has been put in to an asset based mostly on its market cap, or conversely how a lot a market cap will transfer when some amount of cash flows into or out of the asset.

Price is solely a operate of the present state of the order books throughout all markets that checklist the asset.

Consider this: let's say the present worth of BTC on Binance is 50k. What does that basically imply? It merely implies that the very most cost-effective restrict promote order presently on their order books is for 50k. That's what worth means definitionally, proper? Price is simply the quantity it’s important to pay to purchase one thing, so on a CEX worth is all the time merely the present most cost-effective restrict promote.

Example 1: Huge Purchase with No Effect on Market Cap

Let's say that the present worth of BTC on Binance is $50k, and the individual presently prepared to promote at 50k (and who’s thus the individual presently defining the Binance worth of BTC) is a whale who’s providing 1000 BTC at 50k. Let's say I’m a whale purchaser and I’m put in a market order for 999 BTC. Well, I’ll find yourself shopping for all 999 from the whale vendor, leaving them with 1 BTC nonetheless on the market at 50k. Since they’re nonetheless promoting 1 BTC at 50k, the value of BTC on Binance continues to be 50k. So I simply purchased almost $50 million price of BTC however the worth (and due to this fact the market cap) didn't transfer by even a penny.

Example 2: Tiny Purchase with Huge Impact on Market Cap

Now think about one other state of affairs. The present worth of BTC on Binance is 50k, as a result of the present most cost-effective restrict promote is somebody promoting 0.01 BTC on the worth of 50k. Let's say I resolve to purchase 0.02 BTC. Well, half of that may come from the individual promoting 0.01 at 50k, which implies I’ll eat that vendor. The worth of BTC on Binance will now teleport to regardless of the subsequent most cost-effective restrict order is for (that is the mechanism by which worth goes up when folks purchase). Since BTC may be very excessive liquidity (which implies numerous restrict orders on the books packed densely throughout the value spectrum), the subsequent most cost-effective restrict promote after the 0.01 BTC at 50k would in all probability be at like 50.00001k. But, for the sake of the instance, let's think about a extra excessive state of affairs by which BTC liquidity is extraordinarily low so the subsequent most cost-effective supply after the 0.01 at 50k is at 50.5k, totally 1% costlier. Ok, properly, I find yourself getting 0.01 BTC at 50k, and one other 0.01 BTC at 50.5k, fulfilling my market order and leaving the value of BTC on Binance at 50.5k. So, I’ve spent about $1000, however I moved the value of BTC by 1%, which implies my buy of $1000 elevated the BTC market cap by almost $10 billion.

Closing Thoughts

Now, I’ve been form of glossing over the truth that for BTC and most cryptos, they’re listed on many impartial order books directly (one for every CEX), so an asset technically has as many alternative costs as markets that checklist it. So, in case you precipitated a large outsized worth spike on Binance for a scorching second because of an especially illiquid market, you didn't truly spike "the" worth of BTC by that quantity, you simply spiked the value of BTC on Binance by that quantity. "The" worth of BTC as reported on one thing like CoinGecko is simply is only a weighted common of the costs in all of the completely different markets. In actuality, all of the issues I’ve described on this put up are taking place independently in each marketplace for one asset like BTC, after which the costs throughout these markets are saved in sync because of arbitrage.

There are additionally markets that checklist BTC with out utilizing the order e-book construction. These are known as DEXes (decentralized exchanges), and are the bread and butter of DeFi. If you'd wish to know intimately how costs work with DEXes and liquidity swimming pools, you possibly can learn my put up on that subject here. For the context of this put up, although, all you might want to know is that DEX costs are saved according to CEX costs because of arbitrage merchants buying and selling liquidity swimming pools towards CEX costs. So, principally, CEX order books do 99% of the first transferring of costs, after which DEX costs are principally a mirrored image of CEX costs.

There you could have it, that’s how costs truly transfer. It's not potential to know the way a lot a given purchase or promote will transfer a market cap until you understand the precise state of the order books at that second on the trade you're promoting on, in addition to the quantity of arbitrage friction between all markets.

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