Exchanges are the most popular way to dispose of bitcoin holdings for fiat currency, with thousands of coins being traded daily. However, when one cryptocurrency startup founder needed to cash in his bitcoin quickly, he didn’t log on to an exchange to do it.
Instead, the entrepreneur started asking around for a broker who could settle the issue with an over-the-counter (OTC) trade. The broker he found, through mutual friends, was Jonathan ‘Jonny’ Harrison, who runs London bitcoin ATM firm Satoshipoint. The two struck up a conversation on Skype and soon agreed to do a deal.
Trading over the counter offers several advantages over placing an order on an exchange. For one thing, traders get to protect their capital from the effects of price slippage.
Slippage is what can happen when an investor sells a large block of coins on an exchange all at once. If the sell order is large enough, it can cause the price on the exchange to fall as it is filled. As a result, the seller can lose a substantial chunk of the proceeds by the time the entire order is filled.
Just how much of a trade is lost to slippage is difficult to quantify, according to George Samman, a co-founder of BTC.sx and a former portfolio manager at a New York investment firm. In a hypothetical trade where an investor sold 100 BTC on BitStamp at today’s price of about $490, he or she would stand to lose up to 10% to slippage.
“When someone is trying to put a block trade through and there’s not enough takers at a certain price level, then the price keeps dropping as bids keep getting lower and lower,” he said.
Other factors can come into play. Traders could be laying in wait with ‘false’ orders on the exchange to feel for large blocks coming to market. When some of those orders are filled, savvy traders could cancel the rest of their original orders, sensing that a big block is being traded, and quickly place new orders at lower prices, Samman says.
“Other traders will just snap it away and the price could drop $10, $15, off of 20 coins being traded in a 100-coin block. And they will keep snapping it up because it keeps slipping and slipping,” said Samman.