Dec 23, 2020 11:21 PM | Joseph Young

The Bitcoin price has seen extreme volatility throughout the past week, continuously rejecting the $24,200 to $24,300 resistance range. 


There are a combination factors behind these large short-term price swings in the Bitcoin market. They are: cascading liquidations, high funding rates, slowing Grayscale inflows, and a healthy correction.


Cascading liquidations and high funding rates caused the market to drop


On December 20, the price of Bitcoin saw a sharp rejection at $24,295 on Binance. At that level, a pullback was expected because exchange heatmaps showed stacked sell orders above $24,000 at the time.


However, in the 17 hours that followed, the price of Bitcoin dropped to as low as $21,815. Behind the abrupt 10% drop in price was cascading liquidations on top major futures exchanges, including Binance, OKEx, and Huobi.


In the futures market, buyers and short-sellers borrow more money to trade with larger amounts. For instance, the standard leverage in the Bitcoin futures market is up to 100. This means that a trader could place a $100,000 position with merely $1,000.


If the leverage is higher, the liquidation price is nearer to where the trader buys or sells Bitcoin. Hence, if the market is over-leveraged, the risk of a large number of liquidations occurring in a short period amplifies.


On December 21, as the price of Bitcoin dropped below $22,000, hundreds of millions of dollars worth of long contracts were liquidated. Data from Bybt.com showed at the time that $474 million worth of futures contracts were liquidated within four hours.


1223英文-1.png


Cascading liquidations trigger large volatility because they force the traders to either market buy or market sell their positions in a limited time span. In the case of Bitcoin on December 21, many long contract holders and buyers suffered from mass liquidations, pushing the price of Bitcoin downward.


The most straightforward way to evaluate if the futures market is swayed to either buyers or sellers is the funding rate. Futures exchanges use a system called “funding” to ensure there is balance in the market.


Funding requires buyers to compensate short-sellers if there are more buyers in the market, and vice versa. Hence, if the funding rate is high, it means the futures market is overwhelmed by buyers, and as such, longing Bitcoin becomes a crowded trade.


From December 20 to 21, the funding rate of Bitcoin was particularly high, reaching 0.1% at one point. Since the funding fee is the funding rate multiplied by the size of the entire position, this can result in hefty funding fees for traders.


As an example, let’s assume that a trader had a $100,000 position open and was longing Bitcoin. Since the funding rate was 0.1%, and funding occurs every eight hours, the trader would pay $300 on a single day from funding fees alone.


How Grayscale inflows slowing could possibly lead to a healthy correction


In a report, analysts at JPMorgan identified that a potential slowdown of Grayscale inflows would increase the risk of a Bitcoin pullback.


Throughout 2020, analysts have said that institutions were behind the ongoing Bitcoin rally. As LongHash previously reported, data from CME and Grayscale clearly show that the institutional interest in Bitcoin has surged in 2020.


When the biggest source of the buyer demand for Bitcoin begins to subside, then the chances of a deep correction increase. If such a trend occurs, Bitcoin would likely see cascading liquidations to the downside, which might intensify the drop.


However, even if a correction occurs as institutional demand slows, on-chain analysts say that corrections would likely be short-lived.


Ki Young Ju, the CEO of CryptoQuant, noted that the risk of a pullback from whales dumping on exchanges has become higher. But, he said that corrections would recover quickly, possibly as buyer demand would offset the correction. He explained:


“I aware of the dumping risk as whales are active on exchanges, but I'm not short on $BTC since the buying power is so strong now. I punt long with low leverage. When this indicator [whale inflows] hits 2 BTC, it is likely to be sideways or bearish. It always has been sideways since November… Even if we see some corrections, it would be sharp and recovery very fast.”


A positive trend at the macro level is that the exchange outflows are decreasing, but stablecoin exchange reserves have increased. This indicates two things: the number of whales actively selling on exchanges are likely declining, and sidelined capital is beginning to reenter the cryptocurrency market.


Investors tend to store capital they obtain from selling Bitcoin or other cryptocurrencies in stablecoins, like Tether. They do this because it is easier to purchase other cryptocurrencies with Tether, like Bitcoin, Ethereum, and many more.


Hence, if the reserves of stablecoin begin increasing across major exchanges, it shows that investors are moving back their holdings stored in U.S. dollar terms through stablecoins back into Bitcoin and other major crypto assets.


1223英文-2.png


In the short term, the uncertain variable in the Bitcoin price cycle iss Grayscale. According to data from Skew, the Grayscale Bitcoin Trust hit a 41% premium, which means investors are buying Bitcoin 41% higher than spot prices through Grayscale.


The increase in the premium of Grayscale derives from the fact that there is no exchange-traded fund (ETF) in the U.S. As such, the Grayscale Bitcoin Trust is the go-to investment vehicle for many institutions and accredited investors.


As long as the Grayscale Bitcoin Trust premium remains near its all-time high, the risk of the institutional demand for Bitcoin suddenly decreasing in the near future also remains low. Considering that the premium is not showing any signs of a near-term drop, the probability of Grayscale inflows causing a Bitcoin pullback remains low.


If you have a good idea for a data story, please don’t hesitate to reach out! Please send pitches and tips to:

Email:[email protected]

Most Popular Articles

Top Hashtags

Firebase Subscribe