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In the previous Investbro.id article you have studied. What is stock liquidity? And why is that important? In the article, the authors state that stocks are liquid if supply and demand are high. to be able to sell and buy at any time
What if the demand level is high but there are no investors to sell? Yes, it means the stock is illiquid. This is where the role of liquidity providers comes in.
What is a liquidity provider? Check out the following comments:
Liquidity Provider Definition
Simply put, a liquidity provider (LP) is a party that acts as a liquidity provider for certain instruments. The way liquidity providers work is to trade instruments if there is supply and demand.
The purpose of the LP is to be able to maintain good liquidity of the relevant instruments. The people represented here are usually institutional investors such as banks, securities companies, etc.
However, an individual investor can be said to be an LP when he becomes a market maker or sells the securities he owns. The reason is that the sale of securities allows other people to buy the securities. to maintain the liquidity of transactions in these securities Therefore, it is not surprising that many trading platforms use cost to sell securities that are lower than the cost to purchase securities.
Liquidity providers in various instruments
The performance of liquidity providers may vary depending on the instrument you purchase. but in general The function is the same This is because the parties involved in each instrument are also different.
Here are some details about LP’s performance in Stocks, Crypto and Forex:
stock market
In the stock market, a securities company can become a liquidity provider by being an underwriter (insurerThe reason is that securities firms can buy the remaining shares of the IPO company. The remaining shares are then distributed to banks that cooperate with the brokerage firm so that retail investors can trade.
forex market
in the forex market This term is used to describe an institution that links a forex brokerage firm to a financial institution with large reserves, such as an international bank. hedge fund companies, etc.
Such institutions in the Forex market are called market leader or market maker Forex brokerage firms cannot directly contract with these institutions. therefore need a company that provides liquidity
In addition, LPs in the forex market are divided into two levels: Tier 1 and Tier 2. Tier 1 is a company that can negotiate directly with the above financial institutions. in order to be able to guarantee Zero spreadThe second tier is a market maker company that sets prices for investors or retail traders. This second tier LP is usually in the form of an interbank or bank mediator of lesser size than Tier 1.
Crypto Market
In the context of cryptocurrencies A liquidity provider is a user who provides liquidity pools using his own crypto assets. In return, he will benefit from interest on crypto deposits (coin market capitalization). He can sell crypto assets when the liquidity in question is full.
The role of liquidity providers
The role of the liquidity provider is to maintain the liquidity level of the instrument in the relevant market.
Liquidity must be maintained because:
- with high liquidity in instruments This means that this instrument is highly sought after by traders and investors.
- This is because there are many investors and traders trading these instruments. The prices of these instruments are therefore more stable and safer for novice investors or traders.
- This means that the prices of instruments that do not have a fixed level of liquidity tend to change rapidly to make them less attractive to the general public.
Liquidity providers can sell and buy the same instrument at the same time regardless of whether buying or selling will benefit them. This is because the company’s business model is different from that of traders and investors.
However, given that LPs are generally institutional investors with a large amount of capital and the potential to change market prices It is therefore better for traders and retail investors to anticipate every transaction they make. One way is to use a feature-rich trading application or a bandarmology implementation. bandarmology special app.
How do liquidity providers make profits?
From the above discussion, it can be concluded that LPs are parties with different business models. Although the functions of the LP are the same. There are people who have a business model as a distributor. There is a person who provides a pool of liquidity. There are also middle-class banks that act as intermediaries between brokerage firms and large financial institutions.
Because of the different business models, the way each LP makes profits is different. For example, underwriters can benefit from negotiating with companies they will assist in IPOs, while the provider Crypto liquidity services benefit from deposits or crypto deposits.
Differences Between Market Makers and Liquidity Providers in the Forex Market
The difference between a Market Maker (MM) and a liquidity provider can vary between instruments. However, in the forex market, the difference between the two terms lies in their functionality. As the name implies, the Market Maker (MM) is “market leader” This person may be a natural person. Brokerage firms with a market maker (MM) business model or banks and other financial institutions.
A liquidity provider is a company that acts as a bridge between forex brokerage firms and large market makers (MM) such as banks and large financial institutions. ECN business model, also known as electronic communication network
This type of brokerage company directly transmits transactions between traders and investors using some electronic system to avoid interference. The size of the profit depends on the amount of the Bid/Ask difference paid by the trader.
How about a forex broker whose business system becomes a market maker at the same time? This type of brokerage company has a system. “It is payable to the trader or investor if the trader or investor makes a profit and it makes a profit if the trader or investor loses.”
Conclusion
A liquidity provider (LP) is a party that acts as a liquidity provider for certain asset classes. In the forex context, LP firms also act as an institutional link between ECN brokerage firms and large liquidity makers such as banks and lenders. international financial institutions
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