Bitcoin recovers

Despite Amazon denying rumors of accepting Bitcoin, the cryptocurrency continued to climb the following days. The price recovery from under $30,000 also came following fears of GBTC’s unlock of 40,000 Bitcoin. In light of this event and Bitcoin’s historical 80% drops in bear markets, it appears that traders had been overly bearish.

This is apparent in perpetual swaps’ funding rates, which had been mostly negative since the price drop in May. For those unfamiliar with perpetual swaps, they are a type of futures contract without an expiration date that relies on charging funding fees to create market forces to peg its price with spot prices. If perpetual swap’s price is at a premium relative to spot price, the funding rate is positive and that rate is paid by long holders to those shorting the market. Inversely, when perpetual swaps are at a discount — like they have been the past two months — short holders pay the funding fee to those who are long.

A common concept used to understand market structure in futures is whether they are in contango or backwardation. When the price of a futures contract is above spot prices, it is said to be in contango; when it is at a discount, it is in backwardation. These states are useful to understand the consensus among futures traders, as well as to identify potential arbitrage opportunities.

In Bitcoin’s case, futures contracts have remained in contango for the vast majority of the year, with the carry trade arising as a popular arbitrage as a result. The upcoming quarterly contract briefly went into backwardation in three of the top five exchanges prior to Bitcoin’s recent price increase.

Derivatives markets have become increasingly relevant in crypto, surpassing spot volume for large crypto-assets such as Bitcoin and Ethereum. By analyzing these markets in depth we can observe that too many traders had been positioning themselves on the short side, leading to high liquidations and a trend reversal following Bitcoin’s price recovery. Ultimately, this has shifted momentum in bulls’ favor as Bitcoin attempts to break above $40,000 for the first time in two months.