Flipping the Fee Model: The Benefits of Inverted Pricing

Despite being at the forefront of financial innovation, cryptocurrency exchanges have been less responsive to industry trends such as the transition to new pricing models. Not only have trading fees on equity exchanges dropped to near-zero levels over the past decade, but the most forward-thinking platforms have flipped the popular maker-taker model with inverted fee structures.

Cryptocurrency exchanges meanwhile have lagged behind. Digital asset trading platforms are typically more costly than their traditional counterparts, and offer traders less efficient order execution.

eToroX puts cryptocurrency exchanges on the same level as traditional platforms with an inverted fee model that offers efficient and cost-effective trading.

Maker-taker fees

Most cryptocurrency exchanges use the maker-taker pricing model. This grew to popularity in the late 90s as electronic marketplaces took over from the trading floor.

By offering lower fees and rebates for liquidity providers (makers), and charging higher fees to traders absorbing liquidity (takers), the maker-taker model aims to attract liquidity to trading venues.

Makers that add liquidity to the order book with limit orders are charged a low fee or paid a rebate, encouraging traders to place liquidity-providing resting orders.

Takers that remove liquidity from the orderbook by executing market orders are charged a high fee for fast execution.

Maker-taker fees in action

Kraken, Coinbase Pro, and Bitfinex all structure their fees using the maker-taker model.

Traders will typically pay a fee of around 0.16% to execute a limit order, and 0.26% for a market order.

For example, an aggressive trader buying one bitcoin at $10,000 with a market order will pay $26. If bitcoin then moves up to $10,500 and the trader wants to quickly sell with another market order, they will pay another 0.26%.

In total, the trader pays roughly $53 dollars for the round trip of buying and selling bitcoin. If the trader used limit orders, they would pay a slightly lower round trip fee of roughly $32.

A flawed fee model?

The prospect of paying lower fees for providing liquidity helped the maker-taker model quickly take off in the 90s, and it eventually became the standard fee structure in the U.S. equities market.

In the past decade however, the model has come under fire. Critics suggest that maker-taker fees incentivise brokers to act against the interest of traders by routing orders for maximum fees, rather than for the best possible execution. Debate over the model has blown up to become one of the biggest points of contention in the stock market, and even top legislators have chimed in.

U.S. Senator Charles Schumer called for the Securities and Exchange Commission (SEC) to consider the issue in 2014, and then launched a pilot scheme in 2018 to analyze the effect of the fee model on the market.

This ongoing dispute is one of the reasons why forward-thinking trading platforms are flipping their fee structures and adopting the inverted model.

Inverted fees

Instead of rewarding the maker and charging the taker, the inverted fee model—also known as the taker-maker model—turns the typical pricing structure upside down.

Takers that execute trades against the orderbook are paid a rebate or charged a lower fee for removing liquidity from the market.

Makers that post resting orders on the orderbook pay a higher fee to provide liquidity.

Inverted fees in action

For big ticket traders with monthly volumes over $10M, eToroX’s inverted fee model pays a rebate of 0.01% to takers, and charges a 0.03% fee to makers.

If the same $10,000 bitcoin trade we considered earlier was executed on eToroX, the trader would get paid a rebate of $1 for removing liquidity by instantly buying the bitcoin at $10,000.

Then if the same trader sold the bitcoin back to dollars at $10,500 with another market order, they would receive another rebate of $1.05, making a total of $2.05 payment for the round trip.

But while getting paid to trade might be attractive, the inverted fee model offers even more significant benefits to traders.

A fee model for better fills

Since Nasdaq introduced inverted fees in 2009 on the BX exchange, most major platforms have offered this alternative pricing structure—including the Better Alternative Trading System (BATS) BYX exchange, since acquired by the Chicago Board Options Exchange (CBOE), and The Investors Exchange (IEX). These platforms have quickly grown, led by Nasdaq’s BX which became the fastest growing U.S. equity exchange in 2017.

This growth was achieved by offering traders the best possible order execution.

A study from IEX found that despite the dominance of maker-taker exchanges in U.S. equities trading, they exhibit “greater adverse selection, less stability around executions, significantly longer queues at the inside, and a lower probability of execution” than exchanges using the inverted fee model. This means traders on maker-taker exchanges are more likely to wait, and less likely to find a fill for their order.

These findings have been verified by research from independent algorithmic trading provider Pragma, which found inverted exchanges deliver “better execution quality, exclusive of exchange fees.”

The benefit of the inverted fee model extends to both aggressive and passive traders.

Aggressive traders wanting to get a fast fill can choose to use a taker order, and are rewarded for doing so with a rebate.

Passive traders providing liquidity also enjoy a faster fill for their own orders because the takers are incentivized to fill it with a fee rebate.

Data from Nasdaq shows this inverted fee model is particularly popular with traders when spreads are wide and queues are long. This makes it ideally suited for cryptocurrency markets which typically have lower levels of liquidity and wider spreads than equities markets.

By introducing the inverted fee model to cryptocurrency, eToroX offers the possibility of superior order execution to traders, enabling the entry of institutions and high-frequency trading (HFT) systems that depend on getting the best possible fill.