May 18, 2020 10:16 PM | Joseph Young

BitMEX is no longer the dominant force in the Bitcoin futures market. Just a year ago that would have seemed unimaginable, but rapidly increasing institutional volume and an emergence of well-regulated crypto custodians has caused a large shift in the cryptocurrency market.


The Bitcoin market is mainly divided into three sub-markets: spot, options, and futures. Spot refers to fiat-to-crypto or crypto-to-crypto trades with no borrowed capital or leverage. Options are a form of derivatives that allow investors to buy a contract to buy Bitcoin at a certain time and price. Futures contracts allow investors to trade Bitcoin with debt. On Binance Futures, as an example, an investor can borrow up to 125x of their initial capital to trade.


The Bitcoin futures market drives substantially higher volume than spot and options market on paper. It is easier to trade futures contracts than options due to their simplicity, and it enables investors to trade with larger capital than in the spot market.


In the first three months of this year, the demand for alternative futures exchanges such as Binance Futures, Bybit, OKEx, Huobi, and FTX increased, gradually decreasing the gap between BitMEX and its competitors.


Then, on March 13, 2020, the Bitcoin price dropped to around $3,600 across major exchanges. The abrupt pullback began to decrease the dominance of BitMEX in the futures market.


The price drop in mid-March was primarily triggered by a cascade of liquidations on BitMEX. A liquidation of a futures position occurs when the price of Bitcoin drops or increases beyond the liquidation price of the position. As an example, if a trader places a long contract on Bitcoin at $9,000 with a 25x leverage, when the price drops below $8,600, it causes the position to be liquidated.


When the price of Bitcoin fell from $7,967 on BitMEX to $5,800 on March 12, 2020, it triggered many long contract liquidations to happen in a short time period. BTC continued to drop, hitting its lowest point of 2020 at $3,596 on BitMEX the very next day.


The sudden plunge of BTC, which some describe it as the “Black Thursday,” was what propelled the market share of BitMEX to drop. 


What really triggered BitMEX to lose its top spot in the Bitcoin futures market after March 12


When the price of Bitcoin was falling from around $6,000 to below $4,000, industry executives like FTX CEO Sam Bankman-Fried speculated that the liquidation engine of BitMEX was selling $10 million worth of BTC at a time to the market.


To understand what a liquidation engine is, it is first important to understand what the role of a futures exchange is. A futures exchange is merely a facilitator of two types of traders: sellers and buyers. When a buy order is placed, the role of an exchange is to find a seller at the same price to match a trade.


When a trader enters a long position and bets on the price of Bitcoin going upward but gets liquidated, the position is sold to the market, turning it into selling pressure. A futures exchange then has to find a buyer to take on mounting selling pressure and buy into the liquidated contracts.


The problem with BitMEX at the time was that its orderbook—an electronic list of buy and sell orders—was thin. As the price of Bitcoin fell to a level unseen since 2018 at an unprecedented pace, buyers and sellers struggled to keep up with the falling price even on the most widely-utilized futures exchange.


Eventually, the liquidated positions were sent to the liquidation engine of BitMEX. It seemingly started to sell $10 million worth of liquidated positions, increasing the selling pressure on Bitcoin. When the orderbook could not handle consecutive $10 million sell orders, BitMEX went down for maintenance. The maintenance led the cryptocurrency market to stabilize, and BTC started to recover shortly after.


On March 12, FTX CEO Sam Bankman-Fried said that had BitMEX not temporarily gone into maintenance, the price of Bitcoin could have theoretically dropped to zero.


He wrote:


“There's a critical ratio: Liquidations triggered per dollar move / liquidity per dollar.  Call this R. R was huge today.  There were endless liquidations, and the BitMEX orderbook was basically nonexistent. If R gets above 1, we're all f*cked.  Why is this?  Because there's a $10m liq, which moves prices down X, which is enough to trigger... more than $10m liq.  So there's a positive feedback loop.  And BitMEX liquidates the orderbook... down to 0.”


Similarly, OKEx CEO Jay Hao also said the price of Bitcoin may have dropped to three digit levels if BitMEX did not enter into maintenance.


Hao explained:


“Rumors had it that the maintenance was a manual move to stop BitMEX’s liquidation engine from cascading liquidating all users while their liquidity was thin. If BitMEX had not gone down, liquidations could have easily continued to drive down  prices to three digits levels due to the inverse nature of their futures.”


Following the controversial sell-off on March 12, Bitcoin held on BitMEX dropped by 25% within two weeks. It indicates two possible outcomes: users pulled their funds out of BitMEX after March 12, or BitMEX decreased its exposure to Bitcoin. 


Either way, BitMEX fell behind OKEx as the top futures exchange in the Bitcoin market in terms of 24-hour volume. According to data from Skew, BitMEX is now behind Binance Futures, Huobi, and OKEx, with Bybit falling just behind BitMEX as a close fifth.


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What significance does the dominance shift in the futures market have on Bitcoin?


The effect of the shifting market share in the Bitcoin industry is symbolic. It indicates that the cryptocurrency market as a whole is maturing, evolving, and changing after years of dominance from a handful of exchanges and companies.


As an example, in 2017, the price of Bitcoin hit $20,000. At the time, the market was primarily dominated by retail investors. The Grayscale Bitcoin Trust had around $3 billion in assets under management (AUM) in December 2017.  As of May 15, 2020, the price of Bitcoin is hovering at $9,550. Yet, the assets under management of the same investment vehicle is at $3.279 billion, despite the price of BTC being half of what it was three years ago.


Grayscale’s AUM is a crucial gauge of institutional activity in the cryptocurrency market. The firm’s Bitcoin Trust is a publicly listed stock in the U.S. that allows institutions and accredited investors to buy BTC by owning a share of the stock. It remains the only alternative to an exchange-traded fund (ETF) that institutions in the U.S. can rely on to invest in BTC.


Compared to 2017 and early 2018, the cryptocurrency industry has seen an overhaul in infrastructure. The consumer base of cryptocurrencies has changed as well. The perception of Bitcoin among investors in the financial sector altered following the entrance of Paul Tudor Jones into the Bitcoin market. Speaking to The Scoop podcast, billionaire investor Mike Novogratz said that the investment of Paul Tudor Jones in Bitcoin “opens up a new universe” over the long-term.


Up until late 2019, the Bitcoin market was largely dominated by the spot market and retail investors. The number of institutional investors and professional traders using derivatives are rapidly increasing, making the market more balanced between casual, professional, and institutional investors.


Bitcoin starts a new decade after early entrants spent the past 10 years building foundational infrastructure to enable cryptocurrencies to grow. It is natural to see key structural changes to the cryptocurrency market and a shift in trend across all submarkets including futures, spot, institutional, and options.


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