As a trader, slippage while trading is something you might have experienced but have no idea about what happened. And it can be quite upsetting to see the price difference after a trade.
So what exactly is slippage and what should you do the next time it happens? This guide helps you protect your funds and minimize exposure to slippage.
What is Slippage?
Slippage is what happens when you have to settle for a price that is different from what you initially requested, due to a price movement.
Let’s clarify that.
Slippage is the difference between the price you intended to pay for a trade and the final price you paid. Let’s just say the price ‘slips’ off your hand.
Mind you, slippage is not a bait-and-switch trick. It happens because of high volatility, extreme demand, and can also be a sign of a significantly unstable asset class.
You need to realize that in crypto trading for example, slippage is a part of the whole trading process, especially when you consider the extreme market forces present in the crypto market.
Say you place a market order on your favorite crypto exchange, then you are waiting to have the order filled at the chosen bid rate.
However, within the period it takes the broker to get your market order, the bid might have changed. Thus, the broker fills your market order at the current market price.
The outcome may be higher or lower than the buying power of your original order.
Let’s make it more practical:
Josh places a market order for DogeCoin. He wants 1000 units at $0.5 and expects to pay $500. Unfortunately, DogeCoin is volatile at the moment, and the price goes up to $0.55 before Josh’s order goes through. As a result, Josh pays a total of $550 instead of $500. The order gets executed at a higher price and that’s what slippage is in relation to a trade.
When slippage happens, orders are executed at the next best price. If you are placing a large crypto order, it could mean that you will acquire the units at a variety of prices.
The bigger the order and level of volatility, the more slippage you might experience.
Why is Slippage so Common in Crypto trades?
Slippage occurs in all trading markets but is more common in crypto markets. This is because of the extreme price volatility and drastic price fluctuations.
Low liquidity can also lead to higher slippage which is the reason larger orders seem to experience increased slippage. It happens a lot with market orders.
When placing limit orders, your orders execute at or higher than the limit price. But when it comes to market orders, you only get your orders executed at the price the market dictates.
How to use the Slippage tolerance setting
Most exchanges allow you to change the Slippage Tolerance and Price Impact settings.
Using Slippage Tolerance, you will be able to set the maximum % of price movement that you want to accept.
If it goes above that, the order will fail to execute. The default slippage is usually around 0,5%, however with volatile assets, it is not uncommon to have Slippage at around 12-13% to be able to make a trade.
With the price impact, you get an idea of what slippage to expect depending on the size of your order and what’s happening in the market.
The Minimum Received indicator shows the lowest amount of tokens you will get depending on your slippage tolerance. The worst-case scenario will be that you get something below and the transaction gets automatically canceled.
Positive vs. Negative Slippage
Slippage may sound like having a bad experience but it actually goes both ways. You have a positive or negative slippage.
- Positive slippage happens when the price of crypto falls, which increases your buying power. Assuming you want to buy 1000 units at $1 ( for $1,000), the order then fills at $0.95. It gets you a better value than expected.
- Negative slippage happens when the price of crypto goes up, which reduces your buying power. For example, if you buy 1000 units at $1 (for $1,000), the order gets filled at $1.50, giving you a worse value than expected.
How to Control Slippage When Trading Crypto
There are controls and strategies you can implement to minimize the impact of slippage. The main thing you need to know is how to set your slippage tolerance.
You will find a slippage tolerance control in most crypto brokers. As an investor, you can set the slippage level that you are willing to tolerate either positive or negative.
Then the broker will fill your orders within the tolerance you set. If the price tolerance or liquidity rises above the threshold, the order won’t be filled.
Most investors like to set the tolerance at 0.10% or lower to keep themselves from price fluctuations on any trading day.
Another way to reduce slippage is to avoid trading whenever there’s high volatility. However, that can be hard to do when it comes to crypto.
One of the most common strategies you can use is to break up your order into smaller chunks. Then you wait to proceed with another transaction to keep the slippage low.
However, you need to consider a few nuances:
Every transaction has a fee and these fees add up if you execute many micro-trades. You might end up losing more in fees than what you intend to gain in avoiding price slippage.
Nonetheless, you should bear in mind that there’s no perfect way to deal with slippage.
Take time to consider the price volatility at the moment. Check how liquid the asset is and the ratio of your swap’s volume to the asset’s liquidity and cap.
Analyze some strategic factors that are specific to your situation. As much as you can, try to minimize the impact of slippage on all your trading instances with these strategies.
Ready to start making trades with the minimum amount of slippage?
Let us know in the comments!
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