Since the inception of Bitcoin, volatility has been an area of the cryptocurrency narrative even before exchanges and thus the present mainstream mentions. Now that traditional markets are showing volatility further exacerbated than anti-fragile cryptocurrency during the coronavirus pandemic, the community is seeing how traditional marketplaces a bit like the New York Stock exchange handle equity and commodity volatility through breaker implementation.
In cryptocurrency and decentralized finance, liquidation auctions are the answer for periods of market turbulence. The prominence of the traditional marketplaces triggering the circuit breakers has led some cryptocurrency exchanges to implement similar measures. So because the community debates the wants for mechanisms to protect investors versus decentralization, there are a few of options and scenarios to believe .
When speaking on circuit markets and market volatility during a conversation with Cointelegraph, Vadym Kurylovych, the founding father of STEX — a regulated cryptocurrency exchange based in Estonia — said:
“Trading derivatives on the offshore exchanges looks almost like playing roulette in Madagascar casino. You knew you’d get busted the minute you joined but the potential payout entices you to need the danger .”
While the popularity of derivatives and financial products continues to grow within the cryptocurrency ecosystem, educating investors may be a crucial step that exchanges are now beginning to take. While this does not fully prepare non-sophisticated investors beforehand for when strong solutions are developed, crypto is left borrowing protection mechanisms from the traditional space. For clarity, protection mechanisms in cryptocurrency are getting to be weakened into circuit breakers at the exchange level also because the token level.
Overarching exchange circuit breakers
Mimicking the traditional market, some cryptocurrency exchanges have implemented protection mechanisms within the type of circuit breakers to safeguard their users, while others are resistant to this level of control citing decentralization or other measures to satisfy demand during times of high liquidation. So, should exchanges implement circuit breakers to protect users from plummeting prices?
The New York stock exchange implements “three breaker thresholds that measure a decrease against the prior day’s price of the S&P 500 Index — 7% (Level 1), 13% (Level 2), and 20% (Level 3).” When the first two levels are reached, a 15-minute suspension of trading occurs. At the extent 3 threshold, daily trading ceases. during a conversation with Cointelegraph, Ryan Salame, head of OTC for Alameda Research — which manages over $100 million in digital assets and trades $600 million to $1.5 billion per day — stated:
“It seems to me more kind of a philosophical debate than anything , but I imagine you get a more stable market with circuit breakers thus a much bigger audience would be in favor of them. I personally love a 24/7 market with no circuit breakers and 100x leverage with high volatility, but can certainly see the argument against it.”
The difference could even be within the type of product being offered to the financial community. While Bitcoin is decentralized, other financial products within the cryptocurrency space may have circuit breakers to protect against black swan events a touch just like the normal market has experienced.
The cryptocurrency market has many large liquidation events to point to, but recently, the now-infamous Black Thursday on BitMex could also be an excellent example. the large sell-off was reportedly triggered by two DDoS attacks causing a flash crash within the Bitcoin (BTC) price. This attack did major damage to investors, and it’s being reported that Binance now tops BitMex for Bitcoin Futures. BitMex lacks circuit breakers and thus benefits financially in times of market volatility. While the financial benefit may are large for BitMex, the fallout from not protecting users may cost the platform within the top of the day .
Currently, Binance has not implemented any kind of circuit breakers in their exchanges. during a recent interview with Cointelegraph, the exchange’s CEO Changpeng Zhao touched upon circuit breakers, but didn’t give out any indication of future Binance plans for them. He did, however, remark that “blockchain is way fairer in solving the basic problems of the old system, which suggests the fiat-based system.” This lends credence to Binance upholding its decentralized philosophy and resisting the event and implementation of circuit breakers.
Jake Stott, the founding father of blockchain think tank dGen, lent his insight during a conversation with Cointelegraph, saying, ”With circuit breakers, we start to determine a cryptocurrency market that betrays variety of the basic reasons for it to exist.” He went on to add:
“Without circuit breakers, we may never see products sort of a Bitcoin ETF, because of the massive price variations that might occur between the 24 hour and traditional exchange-traded product. I’m personally in favour of the circuit breakers because it appears much of the recent problems were caused by margin traders uncovered shorts and subsequent clogs within the Bitcoin and Ethereum networks. Price crashes were much more extreme for those reasons.”
So what’s getting to cryptocurrency exchange breaker s look like? A breaker introduced by the Huobi exchange may give some insight into how the industry’s trends could traverse. The liquidation circuit breakers only allow partial liquidation of orders rather than full liquidation, which previously was the case. The breaker acts differently than traditional market circuit breakers, which are used to curb panic-selling. The Huobi breaker will terminate liquidation orders on positions where the margin ratio is ≤0% when abnormal price deviation between the market price and liquidation price is identified.
What’s a ‘Circuit Breaker’ and Why Do Exchanges Need Them?
While there are calls to ban shorting, such a move could disrupt liquidity, while an approach a bit like the one Huobi developed protects users’ funds first. While Huobi could even be on the right path, Jens Willemen, a partner at Kairon Labs Market Making — which provides liquidity to exchanges — outlined implementation struggles for circuit breakers, saying that “for the smaller tokens, people who are just getting listed a breaker would be an honest thing,” adding that overall:
“Circuit breakers do add up for the larger, more liquid tokens to feature during a touch more stability to the markets. In practice we believe this might be very hard to implement within the crypto space. Most tokens are listed on sort of various (unregulated) exchanges, getting of those exchanges to agree on when and therefore the thanks to implement these circuit breakers are getting to be very difficult to say the littlest amount .”
A similar sentiment was shared by Michael Creadon, a board advisor at Inveniam Capital Advisors — a digital financial instruments tool for private capital markets — told Cointelegraph that traders would be caught out either with or without circuit breakers in place:
“Circuit breakers won’t work because there are too many exchanges and no centralized rule-making body. If Coinbase freezes up but the market moves another 50% on Binance, you’ll not be able to get out. So you’re damned if you’re doing , damned if you don’t. For future hodlers, i feel this is often often smaller . For day traders, this is often often vital . Circuit breakers are an honest thing, but hard to deploy when there are hundreds, if not thousands, of trading venues.”
Understandably, competition and high trade volume is beneficial to exchanges, which lends itself to a future where not all will implement circuit breakers. Exchanges will still ensure they create money albeit practices may harm investors and stop wipeouts because of system overloading and attacks.
Governance circuit breakers at the token level
While exchange circuit breakers take the first step in protecting investors, the shortcomings appear to stem from the matter of widespread implementation and consensus on best practice. Additionally, individual tokens have the facility to implement governance circuit breakers and reserves in an effort to protect users.
While discussing the potential of seeing token-level circuit breakers in any upcoming projects and launches with Cointelegraph, Leslie Lei, listing director for Cointiger — the first cryptocurrency exchange to introduce an equity mechanism through their native token — remarked:
“The decentralized goal of the cryptocurrency industry won’t be left up to the exchanges alone and a project we are aware of is already implementing circuit breakers like investment downside protection. We see innovative projects developing and launching daily that strive to satisfy the wants for the whole ecosystem during a decentralized fashion. Most options exchanges implement present major centralization issues with everyone running on different APIs, therefore the token-level approach could even be a preferred solution while keeping users’ interests first.”
While DeFi companies seek an alternate to overarching exchange circuit breakers, the potential solution could also dwell non-correlating reserves. While this is often often possible and currently being implemented with DAI, Dmitri Laush, CEO of GetID — an omnichannel Know Your Customer solution — noted to Cointelegraph:
“The Crypto industry remains within the Wild West zone in survival mode, with monopoly or duopoly on this market finally we’ll see those rules, but it’ll not within the near future. And as altcoins usually reflect BTC and ETH in their drops and raises, the circuit breakers can help traders handling altcoins and tokens also .”
The dependence on volatile assets like Bitcoin and Ether (ETH) places strain on reserves and values of tokens. A recent example is Ethereum’s crash creating issues for DAI during Black Thursday. MakerDAO remedied the dependence on a volatile Ethereum and implemented another reserve that utilizes USD Coin (USDC), a fiat-pegged stablecoin. Liquidity through demand or reserves is vital , yet only reserves are often legally controlled.
Eventually, cryptocurrencies may need to feature their own circuit breakers to protect the baseline value of assets. as an example , during the DAI Auction, sort of users won liquidation auctions for 0 DAI thanks to a bug. While the Ethereum used to create the DAI wasn’t worth 0, the drop in price caused mass auctions to occur. These failures triggered a $28 million lawsuit against the Maker Foundation.
For this reason, reserves themselves may need to act as a breaker . as an example , Gemini Dollar doesn’t see major exchange fluctuations because it’s minted and burned at a 1:1 ratio to the fiat currency it tokenizes. Likewise, Bancor-based reserves produce slippage on available funds during a transparent because of disperse liquidations.
The community appears split on whether cryptocurrency and exchanges should implement circuit breakers and is even more divided on whether those circuit breakers should be at the exchange level or token level. However, one piece seemed clear throughout all the opinions and developmental research: Projects that specialize in the success of investors and users will begin of this as winners.