It should come as no surprise to learn that the cryptocurrency bubble is entirely based on speculative arbitrage activity by hedge funds, who have been buying crypto on the spot market, and locking in long-dated future shares sales at what was assumed would be a predictably higher price forevermore. But, like all speculative bubbles (tulips, chain letters, etc.), this continues to work only so long as it continues to work. Ie, there has to be a sucker born every minute to make sure it keeps working.
But now, according to an anxious article in Bloomberg, things have begun to go south on “one of the crypto market’s most ubiquitous plays. Hedge funds piled into the trade, which could previously reliably produce double-digit annual gains. Even better, the arbitrage was virtually risk-free… However, the trade existed because long-dated futures were more expensive than shorter-dated ones, given that Bitcoin is inherently scarce and theoretically should rise — a structure known as contango. The breakdown of that dynamic implies that built-in bullishness has disappeared gradually as prices declined.”
Nic Carter, founding partner at Castle Island Ventures and one of the market luminaries on this subject, explained what’s going on: “It could mean that some
traders unwind their positions to meet margin calls, i.e. via auto-liquidation mechanisms on exchanges, the futures trade below the spot.” He added that this could persist as long as sentiment remains negative and deleveraging trades continue.