Cryptocurrencies have been hit by a double whammy of negative news over the past two weeks. First, Elon Musk announced that Tesla would no longer accept bitcoin payments, and published a tweet attacking bitcoin for energy consumption. Then, an even bigger tsunami hit: Domestic policy cracked down on bitcoin mining and bitcoin trading.
secondary title
1. Miners panic
Reports of a crackdown on bitcoin mining and trading have been surfacing for several days. The country has been strengthening the regulation of cryptocurrencies, but this is the first time that regulations have been specifically proposed for Bitcoin mining.
While it's unclear exactly what steps will be taken, the news has reportedly led many miners to sell their mining equipment and bitcoins, and some companies have begun moving abroad in preparation for re-opening operations in other countries .
The data shows that the number of bitcoins transferred by miners has recently risen to the highest level since March 2020. Although the direct flow of funds from miners’ wallets to exchanges has not increased significantly, reports have found that tracking the outflow of these bitcoins shows that most miners are selling bitcoins over-the-counter.
If the report is correct, it could explain at least part of the recent market sell-off. What is certain is that this trend will have a very significant impact on the future of Bitcoin.
Over the years, investors have been very concerned about the high concentration of Bitcoin computing power in China, and people often question whether these miners will have any impact on Bitcoin.
If the country continues to crack down on the mining industry, most of the computing power currently concentrated in the country will eventually be redistributed abroad. The shift to decentralization of computing power not only makes the Bitcoin network more decentralized, but also eliminates the biggest doubts that have hindered the development of Bitcoin.
secondary title
2. Binance Prosperity
On May 12, shortly after Musk’s tweet, net bitcoin inflows to exchanges began to spike. By May 19, net inflows were at their highest level in years.
The sudden net inflows suggest that some investors are moving bitcoins to exchanges for sale. In addition to this, several factors contributed to the large net inflows.
By decomposing the net inflow of exchanges, it is found that Binance has the largest share. This is not surprising, after all, the headquarters of Binance is not in China, and it is least affected by domestic policies. At the same time, Binance also has a large futures market, so some of the inflows are likely to be collateral used by futures contract holders to cover their positions.
secondary title
3. Short-term surrender
Although domestic selling pressure was the main reason for the decline, the signs of a sell-off had already begun.
On May 12, Musk tweeted his concerns about Bitcoin’s energy issues, which sent initial shockwaves through the market. Musk later clarified his remarks, saying that Tesla did not sell any bitcoins, however, the sell-off has already occurred.
In early February, Tesla publicly announced that it had bought $1.5 billion in bitcoin, which triggered a large influx of retail investors into the market and pushed the price of bitcoin to a record high of $63,000. But now, as Tesla's attitude has changed, a large number of new entrants have also withdrawn, and these coins are being transferred to more powerful whales.
The chart below shows the change in the number of days Bitcoin is held. After May 12, the number of BTC held for 90 to 180 days began to increase. By May 19, the number of BTC held for 30 to 90 days also reached its peak. This means that Bitcoin flowing into exchanges was likely purchased between December and May 2020, with most of it purchased after February.
These sellers were all selling at a loss, and on May 19, BTC’s SOPR (Spent Output Profit Ratio) fell to 0.977, the lowest level since April 2020.
secondary title
4. Reckoning Waterfall
High levels of leveraged futures volumes underpinned the entire cryptocurrency market in the months leading up to the plunge. But as the price of Bitcoin fell, a lot of leverage was quickly removed.
On May 19, the price of Bitcoin unexpectedly dropped below $40,000, triggering massive liquidations. When Bitcoin reached $39,000, a large number of longs were liquidated, starting a short-lived downward price spiral.
Leverage is when traders borrow money to amplify their investment results. Leverage increases potential returns, but it also magnifies risk. If the price suddenly drops, traders may not have enough collateral in their accounts to cover their leveraged positions, causing the exchange to liquidate their positions, losing all their money. This process can create a sudden surge of forced sellers, which can lead to a liquidation spiral - if enough positions are forced to sell, the price will drop, causing more liquidations to occur.
The figure below shows the value of the Bitcoin perpetual contracts that were liquidated on May 19. Green represents short contracts that were forced to liquidate, and red represents long contracts that were forced to liquidate.
As Bitcoin fell below $40K, a large number of contracts were liquidated in the $39,100 to $40,300 range. This led to a spate of liquidations, with nearly $100 million in liquidations under $33,500 and more than $80 million in liquidations under $31,000. As the price of Bitcoin rebounded, the liquidation volume eventually returned to normal around $30,700.
Mass liquidations have slashed more than $3 billion from the bitcoin futures market to its lowest level since February. Open interest is an indicator that measures the activity in the futures contract market. The higher the number of open interest, it indicates that more contracts are being opened in the market, and it also indicates that more funds are entering the market.
Open interest can also be used to measure market leverage. The higher the amount of open interest, the higher the level of leverage in the futures market. Starting in February this year, the number of open contracts has increased significantly, which in some ways indicates that the price of Bitcoin is driven by a high level of leverage.
secondary title
5. Strengthen the foundation
Over the past two weeks, the crypto market has suddenly undergone dramatic changes. The suppression of the policy triggered the migration of domestic computing power abroad, and Tesla changed its mind on Bitcoin payment, which frightened retail investors and led to a large number of novices surrendering. The large-scale futures liquidation further caused the price to spiral downward, but at the same time it also cleared a lot of leverage bubbles.
Regulatory dynamics are still evolving, and no one knows what the next few weeks will bring. If there is a tougher crackdown, the cryptocurrency market will continue to be volatile. But if things are not as bad as imagined, then the worst is over.
Institutional investors appear to be unfazed by the sell-off. Those who have been waiting for their chance to get in may think this is the right time, with investment titans like Ray Dalio constantly changing their minds about Bitcoin.
Currently, the fundamentals of Bitcoin have not changed. If it does move in a more decentralized direction, it will only become more and more impenetrable.
