“I accuse, Colonel Mustard, with the candlestick, within the drawing room.”
Anybody who’s ever performed the traditional whodunit homicide thriller recreation Clue, will know that to win the sport it’s good to get all of your geese in a row, eliminating all doable suspects and circumstances earlier than you make an accusation.
Narrowing down the weapon, the suspect, and the place the homicide was dedicated kind the idea of this board recreation that has (allegedly) continued to entertain thousands and thousands all over the world.
However in the event you’re not a fan of Clue, how about fixing the thriller of the cryptocurrency market crash of Could?
Was it a bout of that previous market adage to “promote in Could and go away?”
Exterior of the U.S. and Europe, hardly anybody goes away anytime quickly, because the pandemic continues to rage unabated in a number of the least inoculated nations on the earth.
However a cryptocurrency crash wants explanations and demanding these explanations requires going by means of an inventory of doable suspects, settings and certain motives to make sense of the insanity.
Was it Market Construction?
It’s been mentioned that within the markets, the bull goes up the steps, the bear goes out the window.
If that’s the case, then this cryptocurrency bear didn’t simply exit the window, it squeezed out of a porthole within the aspect of a 100-storey constructing, in a transfer that noticed excellent futures contracts go from round US$28 billion in April to lower than half that quantity at US$13 million in only a matter of days.
Cryptocurrency derivatives have lengthy been the tail that wags the canine.
However over the course of a Could weekend, the peculiar market construction of cryptocurrency markets could have inevitably contributed to exacerbating a number of the wild swings skilled by traders.
The by-product order books for cryptocurrency markets are extremely levered, and a pointy sell-off within the spot markets places downward strain on costs, which results in margin calls that require purchasers to prime up their by-product bets.
However as a result of Bitcoin is broadly used and accepted as collateral to take levered bets on different cryptocurrencies, a sell-off in Bitcoin would imply a hastening transfer for margin calls in derivatives of the opposite cryptocurrencies, whose margin necessities are a lot tighter than say for Bitcoin.
That sell-off would result in a cascade in positions being pressured to shut, resulting in a downward loss of life spiral.
Traders had been betting that curiosity in Bitcoin would ultimately spill over into so-called altcoins (cryptocurrencies apart from Bitcoin), however as Bitcoin received bought down margin calls on altcoin derivatives soared, main traders to dump altcoins and go into Bitcoin, as a result of regardless that Bitcoin would possibly right between 20% to 30%, the costs of some altcoins have been falling by as a lot as 80%.
However given the energy of the Bitcoin sell-off, that rotation from the altcoins into Bitcoin was inadequate to take in the ripple impact of promoting.
And in contrast to final March, the place traders might at the least take consolation that all markets have been tanking due to the coronavirus pandemic, final month’s sell-off was confined strictly to the cryptocurrency markets, and the promoting strain was sustained.
Exacerbating issues, not like final March, the rise in recognition of DeFi or decentralised finance has really made sharp sell-offs messier.
Utilizing decentralised exchanges and lending swimming pools, a promoting exercise within the spot markets for Bitcoin and Ether and a flood of liquidations in lending good contracts, coupled with a pointy spike in fuel charges made it difficult for merchants to prime up margin necessities.
As a result of spot costs of Bitcoin moved so considerably, on-chain deposits have been onerous to finish as a result of the Ethereum mempool received clogged, fuel charges soared and the collateralised lending on the Ethereum blockchain confirmed vital lag in reflecting costs on centralised exchanges.
The cascade of on-chain liquidations results in big value discrepancies between decentralised exchanges and their centralised counterparts, exacerbating the autumn as increasingly lending good contracts skilled automated pressured liquidations.
And whereas the cryptocurrency markets held up, it additionally laid naked their weak spot.
Whereas a number of the greatest exchanges like Binance, Coinbase and Kraken have been momentarily offline due to the sheer quantity of transactions, the decentralised exchanges didn’t fail – they held up structurally, however mirrored the constraints of the cryptocurrency ecosystem — there are not any consumers of final resort or market makers to make bids and stabilise the market.
Within the conventional monetary sector, a market maker is required by the change to make bids (purchase orders) and asks (promote orders) when none would in any other case exist to permit for the graceful operation of the market.
However no such equal exists within the cryptocurrency market, nor a purchaser of final resort — which was laid painfully naked (bear?) over the course of a weekend in Could.
So was market construction guilty for the crypto crash?
Blame it On the Miners
The peculiar market construction of the cryptocurrency trade shouldn’t be new, and whereas it may be used to elucidate what occurred within the aftermath of the promoting exercise and why it was so pronounced, it isn’t a smoking gun.
What or who was promoting?
When markets sell-off drastically or dramatically, there’s at all times a temptation to level the finger on the silent members within the cryptocurrency market — the cryptocurrency miners.
Over the month of Could, one idea being floated was that the facility outage in Xinjiang, which noticed a major hashrate drop for Bitcoin as miners got here offline, as one doable motive for the promoting exercise.
However within the grand scheme of issues, while notable, that hashrate drop was not vital in comparison with the broader market.
And it’s not as if Bitcoin was being bought off to pay the payments that miners incur both.
Even at US$30,000, Bitcoin remains to be nicely above the breakeven prices for almost all of miners, the place the worldwide common for overlaying bills to mine Bitcoin is estimated to be within the area of round US$4,000.
And because the sharp pullback in March final 12 months, cryptocurrency miners have adopted subtle choices and futures hedging methods, to make sure that their mining operations proceed buzzing alongside.
When US$1 trillion in market cap will get wiped off of cryptocurrencies in a heartbeat, it’s pure for traders to do some soul-searching and be keen to search out somebody or one thing guilty.
Provided that cryptocurrency miners are the 400-pound gorilla within the room, albeit a silent one, it was solely pure that traders sought to pin the current correction on them.
And due to the controversy surrounding cryptocurrency miners, particularly their alleged energy consumption and (well-informed) need to usually keep out of the limelight, they have been a straightforward goal to pin the latest crash on, however the knowledge simply doesn’t help that.
As a substitute, the most probably idea, and one that’s demonstrable by blockchain movement knowledge, was that somebody or some-them, was promoting Bitcoin in massive quantities.
One risk in fact is that electrical car maker Tesla, whose mercurial CEO Elon Musk has had a love-hate relationship with Bitcoin, bought down a few of its cryptocurrency within the newest crash.
However once more, that will make no sense, as the value of Bitcoin was nicely beneath the value that Tesla purchased the cryptocurrency at and the transfer can be illogical except Tesla was seeking to ebook losses on its US$1.5 billion Bitcoin funding.
What is obvious and may be proved from blockchain flows is that a person, physique company or group of people, was sending Bitcoin onto exchanges and promoting down.
While it’s unlikely to be cryptocurrency miners usually, it is perhaps Chinese language cryptocurrency miners particularly.
As Beijing began tightening the noose round its sizable cryptocurrency mining trade, one risk is that Chinese language miners have been liquidating Bitcoin, changing that to dollar-based stablecoins in anticipation of shifting their operations offshore.
As a result of authorities have cracked down onerous on Chinese language banks and establishments offering monetary companies to Chinese language cryptocurrency miners, these miners may need been seeking to liquidate their holdings whereas they might, after which push that cash offshore to arrange once more.
And as Chinese language authorities crack down on over-the-counter or OTC suppliers who help swaps of Bitcoin to stablecoins, on such common channels as Weibo, cryptocurrency miners could have needed to promote on exchanges, which led to the cascade of liquidations over the span of a weekend.
What is obvious, nevertheless, is that somebody or a gaggle of people or physique company, was decided to promote spot Bitcoin, no matter its impact on value.
And that motion alone, and the next cryptocurrency market crash that ensued thereafter ought to function a reminder to all traders that there are not any consumers of final resort within the cryptocurrency market.
There could also be value ranges which may act as resistance, however no central financial institution and no market maker will swoop in and absorb cryptocurrency ought to the promoting be too sturdy.
But that dynamic additionally works in the other way as nicely — sans regulation, cryptocurrency markets can puff up rapidly right into a bubble and there can be no regulators to intervene to stop issues getting out of hand.
Regardless of the case and regardless of the idea, not like the sport of Clue, there are not any smoking weapons (or candlesticks in the event you want) and no straightforward solutions as to what triggered the latest cryptocurrency crash and sleuths will simply need to preserve going across the recreation board on the lookout for clues.
By Patrick Tan, CEO & Common Counsel of Novum Alpha
Novum Alpha is the quantitative digital asset buying and selling arm of the Novum Group, a vertically built-in group of blockchain growth and digital asset firms. For extra details about Novum Alpha and its merchandise, please go to https://novumalpha.com/ or e mail: [email protected]