We believe that slippage is the optimal metric to quantify liquidity, as opposed to filled order volume, a measure widely used by the market. Slippage refers to the difference between the observed mid-market price and the actual executed price for a trade of a given size. Calculating slippage factors in order book depth and prices at different depths, which better captures the friction and efficiency of actually trading that asset. Deep, liquid order books have low slippage, while thin, illiquid order books have high slippage.
We believe slippage is a more robust indicator of liquidity than trading volume. As an ex-ante metric, slippage measures information used by traders before they trade to decide whether to execute the trade and in which venue to execute it. In contrast, volume is an ex-post metric and can be easily manipulated.