The real reason smaller cryptos suffer steeper drops than Bitcoin

Your screener will often show bitcoin down 5% while smaller digital currencies fall 10% or even 20%. Because both are exposed to the same crypto market, it seems reasonable to expect them to travel in the same direction. The surprising part is the size of those moves.

The key difference is largely a matter of how these assets are traded.

Take a used Toyota Corolla. Because it is a popular car, a seller can normally find a buyer without having to reduce the asking price much.

Now try selling a heavily customised sports car instead. It is clearly worth much more than the Corolla. But how many people are looking for that exact car, with its niche list of features? Not many. If the sale has to happen by tomorrow, the owner may well have to let it go at a hefty discount just to attract one interested buyer.

So how does that connect to cryptocurrency?

With bitcoin, the community of would-be buyers and sellers is far bigger. When investors begin selling, there is a much better chance that someone will buy near the current market price.

Altcoins, by contrast, tell a different story. Picture every owner of a heavily customised sports car trying to sell at the same moment, with hardly any interested parties in sight. Sellers are forced to cut prices to drum up demand, and the more desperate they get, the larger the discounts become.

That is what liquidity means in a trading context. The less a seller has to cut the price to find a buyer, the more liquid the market is.

Market depth is another layer. Suppose you want to sell an altcoin at $10, but the buyers at that level will only take a few coins. The next tier of buyers may be offering $9.50, and further demand sits at $9. If a large number of investors head for the exit, the price has to keep sliding until it meets willing buyers.

There is an additional danger as well. Some traders place these bets with borrowed money. When the price drops sharply enough, the exchanges involved may automatically sell their holdings to limit losses — a mechanism known as forced liquidation. As those automatic sales accumulate, they can drive the price lower and spark still more selling. In short, one fall feeds another, turning a routine selloff into something far more painful.

So when bitcoin is down 5% and your favourite altcoin is tumbling 15%, there is not necessarily bad news attached to the smaller coin. It may simply be a matter of far more sellers than buyers.