The Distributed Trading Network: Changing The Cryptocurrency Exchange Landscape

News, Opinion | April 3, 2020 By:

In late 2019, Fidelity Digital Assets obtained a limited liability trust company charter from the New York Department of Financial Services (NYDFS), clearing the way for an expanded presence of its digital asset custody and trading services in New York. Will Goldman Sachs, Morgan Stanley, and other major Wall Street players make the same move? The question of whether cryptocurrency exchanges will increase in number has come to the forefront as more traditional financial institutions enter the crypto exchange sector.

Cryptocurrency exchanges can be highly profitable businesses, which is why they’re drawing a crowd: There are already more than 10,000 exchanges worldwide. But despite this market’s steady growth, many issues remain unresolved.

The Fragmentation of Cryptocurrency Trading

Due to regional and local regulations, certain major crypto exchanges primarily pair with local fiat currencies for their trading and act as individual liquidity pools with surprisingly limited liquidity: According to Coin Market Cap data, for instance, the major exchange Coinbase has demonstrated a 24-hour trading volume-occupying less than 2% of the global trading volume—suggesting a limit on its liquidity disproportionate to what might be expected.

All of these phenomena taken together have an unsettling effect, causing the same cryptocurrencies to be traded at different values at any given point in time—unusual for such assets with the potential for a global scale.

As a result, the global cryptocurrency trading market is fragmented. Traders cannot execute at the optimal price, and they do not enjoy the National Best Bid and Offer (NBBO) requirement for traditional securities trading. They also may have difficulty executing large block trades at a single exchange, because that outsize transaction may trigger significant price fluctuations. That often leaves OTC desks as the only option to carry out the block trade — an inconvenient and risky trading execution.

Enter the Distributed Trading Network

The global cryptocurrency trading market is seeing a significant evolution today: the “Distributed Trading Network” (DTN), with centralized exchanges as nodes, represents the next wave.

This approach is new to digital assets, but not new to financial markets. For example, ECNs (Electronic Communication Networks) are cross-broker automated electronic trading systems that more efficiently facilitate trades between major brokerages and traders in the U.S. securities industry. From a regulatory perspective, the SEC regulates the execution of NBBO with the help of the Security Information Processors (SIP) system to protect the interests of investors. These assurances are still absent in the cryptocurrency market.

Fortunately, new platforms are arriving to fill this void, introducing a solution via DTNs. In developing its DTN, Apifiny aspires to:

  • Forge a unified market by sharing liquidity across exchanges, to form a more comprehensive order book
  • Achieve price discovery through multiple crypto-to-crypto and crypto-to-fiat trading pairs to access the best available digital asset prices
  • Enable customer access to compliant, regulated trading

To expand on that last point, Apifiny will offer an expanded path to price discovery. For a U.S.-based BTC trader, for example, price discovery has traditionally happened solely in USD since the user mostly has access to the USD/crypto trading pair. With Apifiny, however, that same trader can get access to EUR/crypto, KRW/crypto, etc…quotes around the world quoted in USD/crypto, for quick and easy price discovery across multiple crypto-to-fiat trading pairs.

In this way, cryptocurrency trading using a DTN will be able to access multiple regulated pools globally, providing significant benefits to traders. The DTN built by Apifiny, for example, will provide what Apifiny calls Global Best Bid and Offer (GBBO™)  prices for execution—a system inspired by the principles of NBBO—and extends it worldwide. As Apifiny provides access to a unified market, with a global virtual order book, each participating exchange will share this liquidity and likewise benefit from obtaining the GBBOTM price. Their customers will enjoy faster order fills with superior pricing.

Different from Decentralized

A DTN is different from a decentralized exchange. A large number of trades on decentralized exchanges, as well as clearing and settlement, take place on the blockchain–a transparent workflow, but also an inefficient one. Due to trader anonymity, among other reasons, regulators are currently taking a “wait-and-see” stance with decentralized exchanges. Currently, less than 1% of cryptocurrency trading volume occurs on decentralized exchanges.

The DTNs will take advantage of the latest innovations across multiple tech and finance sectorsprimarily blockchain, high-speed trading, and smart order routing—and converge these technologies to provide unprecedented liquidity and pricing discovery.

This model still utilizes a centralized trading matching model to ensure compliance and efficiency. Because a large number of transactions happen between nodes and third-party participants, it is more difficult to fake transaction volume and attempt artificial price manipulation on a DTN. The DTN can also upload transaction records and information to the blockchain, which further increases the transparency of transactions without any sacrifice in speed. Additionally, centralized exchanges may have to meet regulatory requirements before joining a DTN to enforce regulatory requirements across the entire DTN.

In the distributed trading network model, multiple exchanges become connected, with each one acting as a network node—an evolution whose impact is felt by resolving the state of the disconnected cryptocurrency market, with the DTN optimally acting impartially.

Apifiny is analogous to Nasdaq, in that the goal is to provide services to investors and traders by cooperating with exchanges, market makers, and brokers—in this way it will act as an exchange of exchanges. In the case of Apifiny’s DTN, there is an additional dimension of speed and efficiency: market makers and many institutions are provided with an API to manage their assets/positions, reducing the time and position previously required to maintain and execute on unique API’s, accounts, and positions across multiple exchanges.

The DTN helps organize a system of global digital asset trading where all regulated node exchanges construct and complete this asset network together. Every node exchange is a contributor and beneficiary of the trading network. Forming a positive cycle, nodes contribute to the network, and the network empowers the nodes.

In this essential update to the global digital asset ecosystem, the DTN removes barriers to liquidity, returning substantial freedom to the asset world. Optimally, the DTN enables all node exchanges to enjoy improved access to liquidity while sharing advanced pricing technology with node exchanges. Node exchanges benefit from an  expanded global liquidity and simultaneously provide customers with advantageous execution. Traders can benefit from this global liquidity and improved pricing through multiple node exchanges.

An Industry in Transition

At this time, the cryptocurrency trading industry is gradually moving towards a stage of professional segmentation. Meanwhile, the number of cryptocurrency exchanges continues to grow significantly, and we expect to see traditional market brokers transition into broker roles in the field of digital assets.

DTNs already have their sights set on the next frontier: global traditional stock exchanges and commodity exchanges. Apifiny’s vision is to connect these powerful economic engines by continuing to nurture and grow the role of the DTN, so that traditional digital assets may one day be able to flow globally 24/7, forming a cross-border, cross-asset and cross-time global unified digital asset trading network. A full-on revolution in the international circulation of assets has begun, made possible by blockchain technology. 

For investors and traders, the world will finally have access to regulated pools across the globe and GBBOTM prices. This is good news. But the game is still changing, as DTNs work alongside traders and investors to rewrite the rules of a restructuring industry.