The bitcoin market is struggling with illiquidity as prices and demand rise sharply
The price of bitcoin has quintupled over the last five weeks, rising from a price of $200 on November 1 to $1,071 currently. Ignoring for a moment arguments for and against bitcoin’s long-term viability and the sensibility of its current prices, the exponential growth curve can largely be attributed to an imbalance between supply and demand in the market. But beyond giving speculators whiplash, this increase in demand and rapid rise in price is starting to create problems for the underlying market infrastructure.
Several of the most prominent global exchanges and wallet programs have suffered temporary illiquidity and delays in withdrawals and trading during the last month. It’s not a new issue, or necessarily an unexpected one in the early stages of a marketplace, but this illiquidity is becoming more significant as the total bitcoin market cap grows and it commands a growing global spotlight.
Tokyo-based Mt. Gox, which was the world’s largest exchange until recently, has faced lengthy delays fulfilling requests to withdraw fiat (government-backed) currencies since the Department of Homeland Security raided its US bank accounts. The recent run up in price has only exacerbated this problem, with many customers reporting waits of up to several weeks to receive withdrawn funds.
On November 17, US-based Coinbase alerted customers that it was halting bitcoin buying activity. A note on the company’s website announced that while customers could place orders, these orders would not be priced or fulfilled November 22, a full five days later. Over that time, the price of a single bitcoin increased from $544 to $844, costing buyers a potential 55 percent return.
Slovenia-based Bitstamp, which is currently the world’s second-largest exchange behind BTC China, suffered a “network issue,” which was originally described as a DDOS attack, on November 19. This prevented customers from buying or selling during a day when the market fell from approximately $669 to $536 (before resuming its climb toward new record highs).
Running a currency exchange is a technically challenging and financially intensive operation. Given this and the rapid growth of the bitcoin phenomenon, it should be of little surprise that exchanges are running into issues.
In the traditional banking sector, banks are required to hold only a small fraction of total deposits on hand at any time, but have access to Fed and inter-bank borrowing to make up any short-term shortfalls in the event of a “run on the bank.” Bitcoin exchanges and services companies don’t have this luxury. What’s more, many companies operating in the US are even struggling to maintain a corporate bank account.
Also, unlike publicly traded stocks and commodities, bitcoin doesn’t have market makers who hold securities on deposit and ensure liquidity for both buyers and sellers. Bitcoin exchanges fill this role to a small extent, but most bitcoin customers withdraw their bitcoin after completing a trade and store these coins in their private bitcoin “wallets.”
Bitcoin’s liquidity issues are symptomatic of imbalances in supply and demand and may self-correct as (if?) the market stabilizes. But until this is the case, speculators and those looking to quickly trade in and out of positions should be wary of the reality of this market.
It’s one thing to time the market properly, something that is challenging for even the savviest investor. But it’s of little use if you can’t execute trades at your desired time. As always, proceed with caution.
[Image via Wiki Commons, Sao Paulo Stock Exchange]