Crypto In The Crosshairs & Bitcoin Futures
With announcements by various government agencies, it looks as if stricter regulations are coming for the crypto industry. Recent action in the derivatives market may tell us bitcoin price direction.
Relevant Past Articles:
No Policy Pivot In Sight: "Higher For Longer" Rates On The Horizon
Bitcoin Rips To $21,000, Shorts Demolished In Biggest Squeeze Since 2021
The Crypto Contagion Intensifies: Who Else Is Swimming Naked?
A Rising Tide Lifts All Boats: Bitcoin, Risk Assets Jump With Increased Global Liquidity
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Crypto In The Crosshairs
Yesterday afternoon, bitcoin’s exchange rate gave up some of its year-to-date gains as headlines of increasing regulatory crackdown on the broader crypto industry came across the newswire. The SEC announced charges against Kraken for the selling of unregistered securities due to the firm’s crypto staking product offerings. Similarly, the New York Department of Financial Services announced an investigation into Paxos, the issuer of the Pax Dollar and the BUSD Binance stablecoin.
While the regulator’s concerns aren’t directly related to bitcoin itself, there is increasing chatter of a new-era Operation Choke Point throttling the crypto industry. In simple terms, Operation Choke Point was a controversial initiative launched by the federal government which used the Federal Deposit Insurance Corporation (FDIC) to reduce access to the U.S. banking system for certain “high-risk,” but (mostly) legal industries. While there is no doubt that there has been plenty of fraud and criminal activity intertwined throughout various parts of the crypto industry, some are worried that the heavy hand of the state could harm honest actors if regulators create burdensome hurdles that have wide ranging limitations. For example, some people who are still interested in staking their crypto might now choose to find an offshore and sketchy exchange to do so, putting their assets even more at risk than before. We’ve written about some of the problems with yield offerings in “Collapsing Crypto Yield Offerings Signal ‘Extreme Duress.’”
Bitcoin Market Dynamics
In regard to the bitcoin price action, one could presume that the newsflow was the cause of the recent local downturn, but there were various signs of local exhaustion after an explosive rally across the daily timeframe.
The current dynamic in the bitcoin market is as follows:
Bitcoin’s supply is inelastic as it has ever been due to extremely strong HODLer dynamics.
Risk-on/risk-off flows dominate, with dollar strength and equity markets deciding much of the direction for the bitcoin price in the short term.
The extreme lack of order book liquidity for BTC will lead to volatile moves in both directions, with liquidity at post-FTX collapse levels despite the recovery from the November 2022 lows.
Bitcoin is still range bound between the $16,000 and $24,000 levels until the market decisively decides otherwise. Expect the pinball match between bulls and bears to continue for some time.
Source: Kaiko Data
From a volume perspective, the market currently finds itself in a meaningful liquidity gap due to the short squeeze that led to prices reaching their recent 2023 highs. Volume support sits around the $21,200 level, with more buyers waiting in the barracks between $19,000 and 20,000.
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A closer look at the bitcoin derivatives market.⏳
Reading delta skew and what it means for this market cycle. 🔄
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Bitcoin Derivatives
The futures and derivatives market has been relatively quiet since the short-squeeze-fueled rally that led to the significant outperformance to start the year. In recent weeks, premiums for bitcoin put options completely disappeared across all time frames — weekly, monthly, quarterly and bi-annually. This shows an increased appetite for upside exposure and less of a demand for downside protection. In simple terms, options skew shows the relative “richness” or premium for call/put options, with a negative reading demonstrating a volatility premium for calls relative to puts.
While the demand for calls was likely partially due to a scramble to access upside exposure by market participants, conditions often revert back to mean which places a volatility premium for puts, meaning periods of sustained call option premiums are likely to fade — unless a fundamental market regime shift has taken place.
It’s insightful to note the skew explosion during market crashes, as participants bid the price of put options to hedge risk. Similarly, during rapid periods of price appreciation, notice the demand for calls as shown by a negative skew. Long-call and short-put strategies are two different ways that this dynamic can develop and can serve as a tailwind for the market until mean reversion occurs.
The red highlighted areas below show periods where 1-month BTC call options traded at a volatility premium to put options: negative 25 delta skew.
From an options market standpoint, there was a small bit of froth to start the year, and with the pullback over the last 24 hours, we witnessed a reversion to put premiums across various durations.
While there is plenty of nuance in the options market data, over the near term, the level of skew in the still very nascent bitcoin options market can give us some insight into how market participants are positioned, and thus tell us which direction could bring “max pain.” The options data is healthier than it was to start the week, but given the relative lack of liquidity in the market, any medium/large options flows for either calls or puts would change market structure significantly. We will keep our fingers on the pulse of the level of skew and update readers if there is a notable change.
The futures annualized basis saw a minor pullback after the upward move, but is still far from the worrisome levels seen during 2021. If legacy markets go risk-off over the short-to-medium term, expect the futures market to be where much of the selling takes place — mainly via Binance for crypto natives and CME for legacy participants. In this scenario, a negative futures basis would be the sign of selling exhaustion in the spot market.
To reiterate, the futures market is no longer signaling bitcoin is in the depths of its contagion, but is still very far from the overheated levels seen during the bull market that helped bring about the leverage collapse that toppled the market like a house of cards.
Lastly, the regime in the futures market is still very much stablecoin dominant, demonstrating a weak appetite for crypto-collateralized speculation, another sign that caused bulls heartache during 2021.
This regime is much more friendly to longs than it is to shorts, given the convex nature of both dollar collateralized shorts and bitcoin collateralized long positions. With that being said, spot inflows are a must for any meaningful squeeze position to manifest and break bitcoin out of its 7-month range.
BM PRO Market Dashboard
Market Summary
Compared to last week, we have two more bearish signals with relative U.S. dollar strength improving and the bitcoin price falling below the realized price of long-term holders. Still up 8.11% over the last year, continued U.S. dollar strength reemerging would be a significant trend against bitcoin and risk assets. Although the VIX is still below its previous 30-day value, implied volatility has been rising over the last week headed into a major CPI data point release next Tuesday, Feb 14. In the latest move, bitcoin price rejected off range highs and the next price level of importance is the 50 DMA of $20,200. Fund flows were down but still significantly positive this week after a record week of $115.6 million. At the same time, bitcoin short inflows have been building over the last few weeks. You can see that data in the latest Coinshares update here. Hash rate is chasing price and just shy of all-time highs, the GBTC discount is back below 40% and the realized price is slightly growing but not showing significant momentum.
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