Bearish Bitcoin Bets Could Indicate the Reintroduction of This Popular Trade

Even as bitcoin's price rose last week, hedge funds and other big traders continued to pour into negative wagers on the cryptocurrency.

According to data released Friday by the US Commodity Futures Trading Commission and tracked by data analytics firm Skew, leveraged funds – typically hedge funds and various types of money managers – held 16,000 short positions in bitcoin futures listed on the Chicago Mercantile Exchange (CME) in the week ended Aug. 17. 5 BTC are included in each CME contract.

Since July 20, the number of short positions has risen by 6,000, reaching its highest level in three months. In the last four weeks, the cryptocurrency's price has increased from $30,000 to $48,500.

However, the data does not always imply that traders are betting on price decreases.

The reintroduction of the so-called carry trade, which includes purchasing bitcoin in the spot market against a short position in the futures market, may explain the increase in leverage funds' short bets. The technique aims to profit on the premium, or difference between futures and spot prices, which tends to disappear as expiry approaches. In this manner, a carry trade may make a relatively risk-free profit.

Vetle Lunde, an analyst at Arcane Research, said, "I would think it's mainly carry trades." “It has been rising in recent weeks amid the positive market movement, resulting in CME basis premiums being substantially lower than those on offshore futures platforms.”

Other offshore exchanges like as Binance, FTX, and OKEx now provide an annualized rolling three-month basis (futures premium) of almost 3%, while the CME currently offers an annually rolling three-month basis (futures premium) of nearly 3%. This premium is the percentage difference between a particular exchange's futures price and the current spot-market pricing for the cryptocurrency.

Because of the premium, a trader might earn a 3% annualized return by selling a quarterly futures contract on the CME and purchasing bitcoin in the spot market, betting that the prices would ultimately converge. Some traders borrow stablecoins to buy bitcoin on the spot market, with the interest paid to the stablecoin lender deducted from the net profit.

Carry trades have lost their luster in recent months, as the market's excess leverage has been pushed out by the price collapse in May. Notably, the sell-off below $40,000 on May 19 resulted in the liquidation of more than $8 billion in derivatives holdings.

Another reason may be that, in response to growing criticism of leveraged trading, many major cryptocurrency exchanges, notably Binance, the world's biggest by volume, and FTX, have recently reduced their leverage limits to 20x (20 times a trader's money down) from 100x.

“The trade isn't producing the same profits as it used to,” Lunde remarked. “At its high in the middle of April, the cash-and-carry trade generated annualized gains of 20% in the front-month contract, compared to current levels” ranging between 1% and 4%.

During the peak of the bull run in mid-April, bitcoin futures on Binance and other exchanges traded at a 40% premium.

The present yield is not attractive enough for funds to conduct carry bets, according to Patrick Heusser, head of trading at Crypto Finance AG.

“I doubt that ‘the carry trade' is returning if you look at the absolute yield you can produce right now,” Heusser added.

Heusser said, "Perhaps some market makers or liquidity providers have modified or redesigned his flow idea." “The market makers on the CME are usually the same people that create markets on crypto native exchanges... and some of these guys are classified as leveraged funds,” says the author.

Individuals or organizations having a contractual responsibility to maintain a healthy level of liquidity on an exchange are known as market makers. They guarantee that the order book has adequate depth by offering to buy or sell when necessary and running a direction-neutral book. A market maker filling a short futures position, for example, may acquire a short or long position in the spot market or purchase a call option.

According to Heusser, bitcoin market makers may be short on the CME and hedged on local exchanges in this scenario. He said that it also shows “better purchasing activity from the investor side on the CME.”

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