Target Audience The primary audience for this paper is executives who run a blockchain/crypto company and who are planning to run an Initial Coin Offering (ICO), a Securitized Token Offering (STO) or who have already listed a digital asset on an exchange. Secondary audiences are those providing services and support to blockchain projects such as consultants, marketing agencies, exchanges, and crypto venture capitalists. Purpose To elucidate the concept of market making in the crypto world and to outline several market making strategies so that the reader can be better informed as how to manage their digital asset in market with the long-term goal of raising and protecting capital to fund business operations. Market Making Overview In the early phases of a digital security (currency, token, securitized token) the market is in a phase of price discovery. Price discovery is the process of market participants sorting out what the market price of the new asset is. A single currency, token or security is often traded on multiple exchanges concurrently. Exchanges provide an electronic order book to maintain the collection of bids and offers and a matching engine to match buyers with sellers and execute trades. In the crypto markets, there is a shortage of buyers and sellers in the market to create sufficient liquidity. A liquid traded asset can be frequently bought or sold without causing major swings in the price because there are lots of buyers and sellers trading the asset. The market maker is there to provide price stability and initial liquidity so the natural market price can be discovered without the noise of irrational price swings. Over time a successful asset builds organic liquidity (sufficient investors on the buy and sell side creating tight price spreads and numerous orders on each side of the order book). Crypto Volatility In crypto markets volatility is extreme. There are many new tokens on the market and relatively few buyers and sellers across all cryptocurrencies and tokens compared to what is needed to establish a natural state of organic market liquidity. At the time of this article, there are about 3300 stocks traded on the NASDAQ with a daily trade volume of $140 Bill. In crypto, there are 1600 active tokens and currencies with a daily trade volume of $11 bill, some percentage of which is known not to be real trading. Assuming all reporting crypto volume consists of real trades, this equates to 93% less volume across 50% fewer securities = high, if not extreme, volatility. As a result, market making is a critical service for any cryptocurrency, token or crypto asset. Much more so than in traditional markets. Execution State of the art market making requires a combination of technology and market trading sophistication. The technology must be cutting edge, low-latency, capable of scaling to tens of thousands of orders, numerous concurrent pairs (ETH/BTC/USDT for example) and many crypto exchanges. It needs a disciplined approach to trading and risk management. It requires quantitative and math finesse to build financial models and analytics and to use data and statistics to drive innovation and new strategies. It needs market expertise and ingenuity. Execution strategies must be formed in the context of companies businesses activities and priorities. Market making should be thought of as a partnership that requires close communication so that adaptation to the rapidly changing world of crypto assets and company business context can be navigated. Companies deploying effective market making as a core component of their digital asset financing strategy realize a larger initial capital raise and maintain a stronger long-term market position resulting in resources to finance operations, outlast the competition and win. Unhealthy Order Book Investors are dissuaded from purchasing a digital asset when the price spread is large (the difference between the highest bid and the lowest offer price). In the image below, buying the asset at the minimum price offered for sale ($2.12) means an immediate loss of about 40% in case the buyer wants to immediately sell it back at market price ($1.32). In this example, there are not enough orders (or funds within the orders) on the order book to let an investor sell out of their entire position when they want to. This asset will be met with investor reluctance Healthy Order Book An order book is healthy if the number of bids and offers is large, and the price spread is small. Market making closes the price gap and thickens the order books with bid and offer/ask orders. ICO investors as part of their diligence process will eventually review the order book before deciding to invest. The order book below is healthy and more likely to attract the investment. In this case, the asset trades at 0.5% spread and there are enough orders such that the investor has the ability to unwind their positions (sell) at any time. A spread in the range of 0.5%-0.8% is generally considered healthy. Sophisticated market making algorithms automate this process and provide a high degree of configurability to support a range of strategies and market situations. Optimal Use Of Market Making Funds Assume the ticker symbol for our New Digital Asset is NDT and that we are trading this asset against multiple currencies. For each pair, NDT/ETH, for example, an equivalent funding amount is placed on each exchange where the pair is traded. For example $50k USD equivalent in NDT and $50k USD equivalent in ETH. As bid and offer orders are executed the amount of funds on each side of the pair goes up and down depending on the volume of buying vs selling happening in the market. In a down market when there are more sellers than buyers, the ETH funds may be used to place and execute orders which buy NDT tokens. Over time this creates an imbalance between ETH and NDT. The market making algorithms seek to rebalance by selling back NDT if and when the opportunity arises. An exciting element of the crypto world is that crypto assets can be more freely exchanged than traditional securities. Many vendors, for example, accept payment in a projects token. This means accumulating a token can be viewed as increasing capital that can be used by the project in the short or long term. As an example at Efficient Frontier, we accept the majority of our compensation in the form of a projects token. Outside the market makers fees, the only cost to operate the market making algorithms are the fees charged by exchanges. Note: This can vary by the pricing model of the market making firm. Newly Listed Assets The point of lowest order book health is when an asset is newly listed on an exchange. This is arguably when market making is needed most. During the early trading periods, the market making algorithms may have a difficult time keeping funds balanced. If early investors are selling off their tokens it is important that enough funds are available and that the order refresh rate in the algorithms is high enough to provide the stability needed in the market of that asset. During this phase rebalancing of funds through trading may not be possible. Additional funds will likely be required. Hedging Maturing Assets As assets mature organic liquidity is increasingly provided by investors. Unlike traditional markets, in crypto, it is very common to list an asset on multiple exchanges. Often times projects will add multiple exchanges over time and increase the number of traded pairs. Each new exchange and new pair will require market making funds. Trade volume on each pair will be different. As volume for a given pair on a given exchange increases the ability to hedge that pair across all exchanges and keep market making funds in balance presents itself. As in our earlier example when investors are selling more NDT will accumulate than funds on the other side of the pair and funds become imbalanced. As this happens NDT can be sold on the high volume exchange and done intelligently so that the NDT price is not materially impacted. Funds can then be rebalanced across the exchange accounts. In an ideal state market making can operate in a balanced way across all exchange-traded pairs. Refreshing funds at this state is not required and in many cases, market making can become profitable. Exchange Volume Balancing When the conditions are there to support hedging it becomes cost-effective to balance price differences between large and smaller exchanges. This allows smaller exchanges to better compete with the larger exchanges by elimination inferior asset pricing increasing volumes on smaller exchanges. It is important for the project that no single exchange has too large a portion of the total volume. Sigma Events Each of the red dots in the image below represents a sigma event. A sigma event occurs when an order book becomes thin such that a single small order will cause a dramatic price swing, that may trigger other bots and traders to join and subsequently amplify a downward trend. The image below represents a real-life client case study. A series of sigma events lead to large and avoidable price drops triggering investors and trading bots to begin selling. These sigma events drove what became a long-term 50% reduction in market cap and token price. You can see the period where no sigma events are present. This is where Efficient Frontier was engaged. Efficient Frontier sigma event prevention algorithms can be configured to inject orders only at the instant when the order books become unusually thin and can be set up to protect from a range of order standard deviations. Technology The Efficient Frontier Trading Platform is hardened from over 12 years high-frequency trading in the traditional markets. The platform has been adapted to take advantage of the unique data and opportunities in the crypto markets where work began in early 2017. The Efficient Frontier Trading Platform is best in class cutting technology. — Transaction data is captured from the blockchain and fed into the token intelligence database. The token intelligence database can detect when a large number of tokens have moved onto an exchange. This triggers Trading Algorithms and subsequently the Order Execution engine to manage the order books such that a single large order does not cause a price crash. Blockchain — Data for all order books across all exchanges and traded pairs are consolidated into the Order Book Database. Price prediction algorithms leverage current and historical data to understand market price and price behaviors. Order Book Consolidation — Because exchange data has been unreliable we began storing all historical exchange data in early 2017. This reference data set is the ground from which trade algorithm simulation is operated. Historical Exchange Database — In traditional markets, the competitive edge comes from the speed of the complete loop from data ingestion to order execution. The Efficient Frontier Platform is state of the art in this regard. Real Time — Unlike traditional markets, crypto markets operate continuously. The technology and support structures must be adapted to support 24-hour global operations. 24/7/365 — Efficient Frontier Technical Traders monitor the system 24/7 watching for anomalies and potential dramatic market shifts. Internal Dashboards — Every customer is provided with a personal dashboard giving complete visibility into all activities of the Efficient Frontier platform. Customer Dashboards Return On Investment Return on investment can be significant. It is not uncommon for Efficient Frontier to protect a $10 million dollar value in market cap with a total market making expense of few hundred thousands dollars. Effective market making delivers a long-lasting impact on the capital position of the project and its ability to fund operations over time. About Efficient Frontier Our mission is to help our customers build blockchain companies that win in the long run. We do that by providing financial products and services (Market Making, Liquidity Provision, Exchange Integration, Treasury Management, Analytics) that optimize the long-term value of the ICO capital raise freeing more time for the executive team to do what they do best and are most passionate about — build winning companies. We are serial entrepreneurs, bitcoin ambassadors, physicists, traders, investors, computer scientists, mathematicians, and business professionals. — algorithmic high-frequency trading Over 12 years experience — two years experience building products in support of providing financial services purpose-built for digital assets Crypto — of the Tel Aviv and Frankfurt, Korean and Hong Kong stock exchanges Regulated members — operations with locations in Tel Aviv, San Francisco and Gibraltar with over 20 employees capable of providing unparalleled service Global 24/7 If you would like to learn more do not hesitate to reach out to me at chris@efrontier.io

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