Volatility Cycles Explained
Volatility doesn’t move randomly. Markets rotate between quiet, slow periods and violent expansions. If you don’t understand volatility cycles, you’ll keep entering right before the market goes dead or getting chopped up right before it explodes.
Why Volatility Comes in Waves
Volatility cycles because traders cycle. Liquidity providers pull out, come back in, adjust their quotes, widen spreads, tighten spreads — all based on risk. And when liquidity shifts, volatility follows.
This ties directly into liquidity provider behavior, which is usually the real cause behind volatility spikes.
The Two Sides of the Cycle
1. Contraction Phase
This is the calm before the storm. Price tightens up, candles shrink, and rotations get smaller. Traders mistake this for “nothing is happening,” but it’s actually the market storing energy.
- lower volatility
- tighter spreads
- deeper liquidity
- more mean reversion
2. Expansion Phase
Then something changes — sentiment shifts, liquidity pulls, or news hits — and the market snaps out of balance.
- volatility spikes
- price rips through levels fast
- spreads widen
- trend moves start forming
This is where market imbalance becomes obvious: one side overwhelms the other and price runs.
How to Identify an Incoming Expansion
Expansion rarely comes out of nowhere. Look for:
- liquidity thinning
- LPs pulling quotes
- reduced size on the DOM
- tight, coiling price action
| Signal | Meaning |
|---|---|
| Spread widening | Risk rising → expansion likely |
| Depth collapsing | Price will move quickly |
| Sharp tape speed change | Aggressive orders entering |
Why Beginners Get Killed During Volatility Cycles
Most beginners trade backwards:
- they size up during expansion → get blown out
- they size down or quit during contraction → miss the move
Understanding cycles lets you adjust expectations and avoid trading emotionally instead of tactically.
Bottom Line
Volatility cycles aren’t random. They’re the direct result of changing liquidity, shifting sentiment, and imbalances stacking up. Once you see these waves forming, the market stops feeling chaotic and starts making sense.