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Bitcoin Rally Sets Stage For The Big Short

Bitcoin

Bitcoin has enjoyed another fairy tale run in the current year, with the digital coin recording an impressive 240-percent gain in the YTD to trade at $13,800. The meteoric rise is reminiscent of the late 2017 rally, which saw the leading cryptocurrency nearly touch an all-time high of $20k. Still, that has not stopped large numbers of traders from taking the other side of the trade.

The latest data by CME bitcoin futures shows that hedge funds and other big traders are overwhelmingly betting against bitcoin. 

A recent Commodity Futures Trading Commission (CFTC) report has revealed that hedge funds and other money managers last week held about 14 percent more short positions in CME bitcoin futures than long ones. Other larger traders are even more bearish. The “Other reportables” category that represents firms that don’t necessarily manage money for outside investors had 3x as many short positions as long ones.

CME Bitcoin futures were launched in December 2017 at the height of the biggest BTC rally in history. They allow traders to bet whether the coin will rise or fall.

(Click to enlarge)

Source: WSJ

Small traders most optimistic

It’s not like these heavyweights have suddenly become wary of the huge run-up and now expect some sort of correction. The CFTC data shows that they have been short bitcoin since February when the currency was still trading below $4,000. In fact, they have pared back their short positions considerably during the last few weeks when short bets outweighed long bets by as much as 47 percent--probably due to many experiencing short squeezes and being forced to cover their bearish positions.

As it turns out, small traders have been giving them a real run for their money. Small traders have been the most optimistic in the CME futures market. Among smaller traders with less than 25 bitcoin contracts (1BTC contract=5 BTC), long wagers outnumbered short bets by a 4:1 margin.

Well, “small” is relative here since 25 BTC contracts are the equivalent of 125 BTC which are worth $1.575 million at current market price. Nevertheless, many younger and millennial day traders fall under this category, proving once again that they have an overall positive view of cryptocurrencies than traditional market players.

Can bitcoin futures bring down the market?

This is the million dollar question.

Heavily shorted stocks tend to be the more volatile compared to those with less short interest. On the flipside, these “hated” stocks can turn into real gems when they beat earnings expectations or when risk sentiment improves. 

Indeed, most of S&P 500’s shorted stocks have realized healthy gains this month amidst improving market sentiment forcing the shorts to cover. Bitcoin, of course, trades on pure sentiment, which probably makes it even easier to short.

Related: Why Central Banks Are Dumping The Dollar

There’s no denying that CME bitcoin futures have come a long way since they first debuted a  year and a half ago. Indeed, the contracts reached their highest ever volumes in May-- Average daily volume (ADV) clocked in at more than 13,600 contracts, the equivalent of 68,000 bitcoin with a notional value of $515 million. That’s quite impressive for a product that has been in the market for less than two years.

(Click to enlarge)

Source: CoinDesk

So, how does that stack up to bitcoin “spot” market i.e. where actual units of the digital currency changes hands everyday? Well, that depends.

According to CoinMarketCap data, bitcoin’s average daily volume currently stands at $32.2 billion or 62.5x bigger than CME bitcoin futures volumes. That’s only 1.6 percent of bitcoin’s daily float. With such wide disparities between the two markets, even the whole of CME futures market sold short might not have much of an impact on bitcoin prices. Consider that a stock like GameStop, Inc. has 70 percent of its daily float sold short; for Fossil Group its 52 percent while a third of Tesla,Inc.’s float is in the hands of shorts.

However, that only holds if you believe in CoinMarketCap data. According to this report, only 5 percent of volumes reported on the platform are real with the rest being exaggerated figures mainly through wash trading. Once you make that adjustment, CME shorts become a very significant part of the game. The picture could get even more interesting with new entrants such as Intercontinental Exchange Inc., LedgerX as well as a consortium of financial firms lead by TD Ameritrade Holdings and  Fidelity Investments expected to soon launch their own bitcoin futures.

At the moment though the bulls seem to be carrying the day. That’s probably all that matters.

By Alex Kimani for SafeHaven.com

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