Last Wednesday the planned fork for Bitcoin was called off, causing a massive shift in the futures contact of Bitcoin on Bitmex.
This caused huge loses among some Bitcoin investors, but not for me, as my trade was hedged. If you want to make a living in Vegas, it’s best to be the bank, not the gambler.
The price of Bitcoin was about $7500 USD and the XBTZ17 contract was $6900 USD. You can see from the graph that futures contract went to parity as soon as news that the fork was cancelled was made public.
I had bought long Bitcoin at 5 to 1 leverage so I made 40% on that trade I had written about this trade last week.I hope at least a few readers of this newsletter took advantage of my advice.
To summarize, I had gone long on Bitcoin futures contracts and shorted Bitcoin. The Bitcoin futures contract was priced 8% below the current market price because traders were shorting the futures to go long on Bitcoin to take advantage of the upcoming hard-fork dividend.
And then boom, hard fork cancelled. Everybody who was betting on the hard fork dividend made no money and quite possible lost money.
Could I Have Lost Money on that Trade?
I want to repeat that my trade was fully hedged i.e. it didn’t matter if the price of Bitcoin went up or down, all that mattered was the spread between the futures price and the price of Bitcoin would converge.
And it HAD TO. That is the nature of futures contracts. On the day of settlement, the contracts ALWAYS settle at the same price.
The only WAY to lose money on this trade is if the price of Bitcoin moves so far in one direction that you face a margin call. For example, if you buy Bitcoin at a price of $6000 USD at 5 to 1, you have margin of 20%. If Bitcoin falls to $4500, you face a margin call and your position is liquidated.
If you see that is going to happen, then you need to either a) Add more margin to your 5-1 futures contract or b) Close out your short position at the same time you close out your futures contracts.
If you don’t do that, then if your futures contract is forcibly closed out, and the price of Bitcoin “snaps” back i.e. starts to move higher after spiking down, then you are uncovered, and you are in a losing position.
Remember Bitcoin is very volatile and 20% moves in price can happen very quickly. It just happened last weekend. You do have to keep an eye on the price.
How Often Will This Trade Show Itself on The Market?
Over the last six months, with two hard forks of Bitcoin and one fork that was cancelled, it has been a very volatile market. Yet the price of Bitcoin has more than doubled despite the usual negative weekly news stories. Just this weekend, Chinese miners more specifically Antpool, which controls 20% of the hashing power of the Bitcoin network, made a sudden switch to mining Bitcoin Cash.
This caused Bitcoin Cash to soar briefly above $2000 USD (where I shorted it, BTW) and for Bitcoin to briefly drop below $6000.
The big traders love volatility, and so volatility we shall have for the foreseeable future. It will take big institutional money from the US to smooth out the irregularities in the market, and big-money intake is still months away.
Why is There Such Easy Money to be Made with Bitcoin Futures?
There are two kinds of investors right now in cryptocurrency. There are the buy-and-hold investors who have bought their digital coins and put them in cold storage and don’t plan to cash them in for ten years (or more). I am not kidding about this, there are guys who are storing their Bitcoin in secret vaults in Switzerland.
The second type of investor is not really an investor at all but more like a… gambler. There are a lot of cryptocurrency investor who want to 100% returns a month or even a week. Well you can’t get those types of returns with a lot of risk.
But where there is risk, there is always opportunity for hedging. Every gambler needs a banker. So be the banker for these guys.
While regulatory issues keep the big institutional money out of the game, there is still a LOT of liquidity in the market. Bitmex is easily doing $1 billion US a day in trades, so you can scale up this trade to as big as you want.
If you can find another investment that makes you 40% in one week with no risk, please let me know.
I also have other hedging strategies that allow me to make very decent returns and allow me to sleep at night, but I am saving those for members of my paid service which will start up in early 2018.
By Ross Pilot