Escaping the fragmentation loop in crypto

How industry can make institutions crypto-ready 

Crypto stands as the most fragmented asset class in electronic trading history. With over 700 spot venues worldwide according to CoinMarketCap, this labyrinthine market structure intimidates even sophisticated institutional players. The question isn't whether fragmentation exists, but whether we can preserve crypto's technological innovations while solving its structural inefficiencies.

Our recent benchmark report on crypto OTC markets reveals a paradox: as institutional adoption accelerates, the very fragmentation that defines the space threatens to undermine its growth potential.

Cost of fragmentation

The market structure in traditional asset classes has evolved over decades, influenced by technological advancements, competition, and regulation. Consequently, market structures vary across asset classes and within the same asset class in different parts of the world. Some markets are consolidated with vertically integrated trading venues, where participants compete for optimal pricing at established venues, such as equities in many emerging economies. In contrast, others are fragmented with competition among trading platforms, similar to the global FX markets. 

The cryptocurrency sector, unlike traditional markets, has been propelled by retail adoption, rapid innovation, and minimal regulatory oversight. Market structure changes that might take decades in the FX markets can occur in the crypto space within just one to two years. This swift evolution has led to increasing fragmentation, steering the industry towards a model that raises concerns and involves significant growing pains amid accelerated institutional adoption. 

A study by Acuiti and BSO revealed that 57% of crypto trading firms intend to expand the number of venues they use—a trend that could further disperse liquidity and potentially undermine market efficiency. The collateral damage is considerable: market participants encounter increasing complexity, incur higher costs related to multiple connectivity and the maintenance of various integration protocols, and face challenges in seeking optimal execution across numerous trading platforms. 

Fragmentation conundrum and OTC markets 

Market fragmentation has its most significant impact on crypto OTC markets. Nowadays these markets primarily operate through quote-driven systems established via bilateral agreements between liquidity takers and providers, electronic communication networks (ECNs), and smart order routers (SORs). 

These days, crypto SORs perform the critical function of scanning the fragmented landscape to identify optimal execution venues and direct orders to the deepest liquidity pools. Recently, ECNs have emerged as disruptive forces, connecting liquidity takers directly with liquidity providers, eliminating intermediaries, and offering different execution types.

In traditional asset trading, such as equities, the rise of ECNs and various alternative trading systems has moved liquidity away from exchanges to OTC markets. These systems offer flexible trading protocols with lower costs and market designs tailored to institutional needs. Could a similar shift happen in the cryptocurrency markets? 

In an inaugural episode of our C-level podcast 'The Flow,' I discussed these challenges with Doug Atkin, former CEO of Instinet—the fintech pioneer and ECN that revolutionized fragmented equities markets in the 1970s. Our conversation revealed striking parallels between today's crypto landscape and the equities market evolution of the 1980s.

In summary, institutional participants are likely to opt for platforms that offer access to multiple liquidity pools in a single location, much like how travelers favor aggregators for booking flights and accommodations. 

The hybrid solution 

The OTC crypto markets are on an impressive growth trajectory, with an annual increase of 106% in 2024, according to our analysis. 

A recent survey of institutional participants projects that the crypto spot market will grow between 60% and more than 100% annually by 2025. Currently, 42% of institutions have already integrated digital assets into their daily operations, while another 50% are actively exploring these opportunities.

This rapid expansion underscores the need to address existing structural challenges. In electronic trading, a one-size-fits-all approach is ineffective. Our internal research suggests that a hybrid model, which combines the best features of traditional finance with innovations from the crypto industry, is the most effective solution.

We have developed a non-custodial solution that supports all major execution methods, including the order book, requests for quote (RFQ) method, and quote streams. This system is built on a comprehensive network of liquidity providers and offers institutions familiar execution protocols to access crypto liquidity, all within a single, secure environment. 

For institutions eyeing the burgeoning digital asset class, solving the fragmentation puzzle isn't merely about convenience—it's about profitability. Those who can handle this fragmented crypto infrastructure efficiently will capture the value others leave on the table. The question isn't whether institutions will enter crypto markets, but whether the infrastructure will be ready when they arrive en masse.