Crypto liquidity falling as market makers pull back from hostile US market

Key Takeaways

• Jane Street and Jump Crypto, two prominent crypto market makers, are scaling back crypto operations
• The decision comes as US regulators continue an aggressive clampdown on the sector
• Liquidity is already thin in crypto, and these moves will only drop it further and increase volatility, writes our Head of Research, Dan Ashmore  

It was just earlier this week that I wrote a piece about institutions abandoning crypto. In the couple of days since, it has got worse. 

Bloomberg reported Tuesday that market makers Jane Street and Jump Trading are reducing their crypto focus. While not pulling out of the sector completely, the report stated the duo will be market making at a smaller scale than previously.

This is a big blow for crypto markets which were already showing thin liquidity since market making giant Alameda evaporated alongside FTX in November. I published a piece last week analysing the outflow of stablecoins from exchanges ($22 billion has headed for the exit doors in five months), while order book depth has been alarmingly shallow ever since Sam Baankman-Fried’s party tricks were revealed. 

That liquidity is about to get even worse. With lower liquidity comes greater volatility, as less capital is required to move prices. Thus, moves to both the upside and downside are exacerbated, something I analysed in April when the Bitcoin price, volatility and profit levels all reached their highest marks since June 2022. 

Investors need to be wary that, while price has been rising the last six months, there has not really been anything positive coming out of the sector. Quite the opposite, in fact – bankruptcies picked up in January amid the continued fallout from FTX, while regulators have put the squeeze on since. 

More than anything, prices have been rising as crypto markets are so strongly correlated with the stock market and other risk assets. As market expectations around the future path of interest rate rises have peeled back, risk assets have rebounded – and that means crypto, too. 

With this low liquidity only getting lower, the moves will only become more volatile. As of Friday morning, Bitcoin is trading at $26,200, down 7% in the last 36 hours. 

Regulators squeezing the crypto sector

Jane Street and Jump Crypto faced increasing scrutiny as US regulators continue to clamp down aggressively on the sector. Since FTX collapsed in November, the regauyltory environment has become far more hostile to the crypto industry. 

Ironically, Sam Bankman-Fried worked at Jane Street before founding Alameda in 2017. Caroline Ellison, former CEO of Alameda who has reportedly turned on Bankman-Fried ahead of his trial, also worked at Jane Street before joining Alameda. 

Jane Street was among three US trading firms cited by the Commodity Futures Trading Commission lawsuit against Binance as examples of how US firms could access the platform despite Binance claiming to prohibit them. 

Jump Street was a large backer of Terra, the firm behind the TerraUSD stablecoin and sister coin LUNA, which spiralled to zero in May 2022. The firm was questioned by US prosecutors in an investigation after its demise. 

The clampdown has been controversial, with crypto-native firms decrying that activity will need to move off offshore. Coinbase CEO Brian Armstrong has been among the most high-profile voices to relay this sentiment, saying this week that Coinbase would consider the UAE as an international base, as the US continues to turn the screw. 

The exchange was recently served with a Wells notice from the SEC, a warning of impending legal action, most likely in relation to a violation of securities laws. 

“Crypto and Web3 serve as enormous opportunities for economic and technological diversification for the UAE, and the region has the potential to be a strategic hub for Coinbase, amplifying our efforts across the world”, Coinbase said in a blog post. 

On the other hand, some are praising what they believe is a long overdue squeeze on a sector built upon nothing but greed, that has brought bone-crushing losses for many retail investors over the past year. Whatever your view, it is clear that the US is creating an increasingly hostile environment for any firm operating in the crypto space. 

What next for crypto?

Right now, crypto seems primed to move beyond the US, through no choice of its own. While the industry can continue, this still constitutes a massive blow. So much of the steep trajectory of crypto during the pandemic was based upon the thought that institutions and traditional finance would inevitably pour into the sector. Today, it is going the opposite way. 

The US is the economic and financial centre of the world. Crypto firms being forced out of this market won’t entirely prevent everyday people from investing in the industry, but it certainly will make it more difficult and less convenient. It will also limit innovation in the sector. This is all bearish for the sector and will undoubtedly inhibit its growth going forward. 

As for the price effects, Jane Street and Jump Crypto’s decision to pull back hurts the industry in a place it was already suffering – liquidity. The volatility in the sector certainly won’t be going away anytime soon, therefore, but rather only increasing.