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LIQUIDITY RATIO
In cryptocurrency trading especially DEX trading, LIQUIDITY RATIO (L.R) is one of the important tools used to detect the possibility of a rug pull 📉
In this write-up, we will look at;
• The meaning of Liquidity Ratio
• How to calculate (L.R)
• The risks involved, and
• Its levels (weak, intermediate, and strong)
DISCLAIMER:
This write-up is made for educational purposes only. It does not serve as full advice or a guarantee for you to rely on it (alone) when entering the financial market. Therefore, anyone who depends solely on this to enter the financial market, Ibraheem is not responsible for any losses that may occur. So DYOR!
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WHAT IS LIQUIDITY RATIO
Liquidity Ratio refers to a metric in crypto trading, especially in DEX, that shows the amount of money locked in a liquidity pool (L.P) compared to the market cap of a token. It helps in identifying the possibility of a rug pull in a token.
HOW TO CALCULATE LIQUIDITY RATIO
Formula:
L.R = Liquidity ÷ Market Cap × 100
For example;
Let’s assume we found a token on Dexscreener or Ave with:
Liquidity: 702,000 (702k)
Market Cap: 77,800,0000 (778M)
Then we apply the Liquidity Ratio formula as follows;
Liquidity Ratio = Liquidity ÷ Market Cap × 100
L.R = 702,000 ÷ 77,800,000
= 9.02 × 100
= 0.902%
RISKS ASSOCIATED WITH LOW LIQUIDITY RATIO
»Price manipulation: the market can be easily moved without you noticing. Like in the previous example, there is low liquidity + high market cap (702k and 778M). Whales 🐋 can easily pump or dump.
»Fake market cap possibility: Market cap is 77M but liquidity is 702k. In such cases, the real value is usually in the liquidity, not the market cap.
Example;
M.Cap: 77M
Liquidity: 702k
The 77 million is just the amount of money that has been traded around the token, not actual liquidity.
This means;
When people start withdrawing their funds, the 702k liquidity is what holds the token’s market.
»Exit risk:
If you enter with a large amount of money, you may not be able to exit without a huge loss. Slippage can reach -5% to 20%.
LIQUIDITY RATIO LEVELS
1. Weak:
Weak liquidity ratio usually starts from 1% to 9.9%
In our scenario, we have a liquidity ratio of 0.902%, which doesn’t even reach 1%. So if you calculate and see a token’s L.R in this range, then there is definitely a red flag 🚩 (very risky), so you should run 🏃.
2. Intermediate:
Intermediate liquidity ratio is in the middle—not too low and not too high. It mostly ranges from 10% to 19.9%. This indicates relative safety, not as risky as weak.
3. Strong:
Strong liquidity ratio is one that is solid and shows you can enter a token with more confidence compared to the previous two levels (weak and intermediate). It usually starts from 20% and above.
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