The fall of FTX, the world's fourth largest exchange a few months ago, wiped billions of dollars from the crypto ecosystem. The pain it caused to market participants left many questioning the notorious comeback ability of Bitcoin (BTC) once again. Post the crash, the interest in BTC had gone down to record low levels and started to exhibit periods of low volatility. It was as if BTC was waiting to capitulate to $10,000-15,000 levels on the first sign of bad news. But in a reversal of fortunes, January’s rally caught the attention of the entire crypto community. The total crypto market capitalization reclaimed the $1 trillion mark again and has been trying to hold it ever since. In today’s article, we will analyze the reason behind the BTC’s and ETH’s move in a detailed manner.
The cause of this rally seems to be an enormous short-squeeze. There have been more than $2 billion short positions liquidated year-to-date, almost double the long liquidations.
Before going further, let’s address what liquidation and leverage means in the crypto world. Liquidation refers to the activity of selling off crypto assets for cash to mitigate losses in the event of a market crash. However, in the crypto world, the term liquidation is mainly used to describe the forced closing of a trader’s position due to the partial or total loss of the trader’s initial margin. This happens when investors do not have sufficient funds to keep the trade open.
Crypto margin trading is the process of borrowing money (typically from a crypto exchange, could CEX or DEX) to trade a higher volume of assets. This method can provide the trader with increased buying power (or leverage) and the potential for greater profits. Of course, it comes with severe implications.
While most are in disbelief as there were many fake-out rallies in 2022, the recent rally is proving to be different this time. According to derivatives data aggregator Coinglass, open interest on perpetual futures has declined by more than 50% from November 2021 top. It also became evident that the second half rally was fueled by huge funds like 3AC and Alameda. It’s evident because leverage has been wiped out from the market according to DeFi on-chain data.
The claim that the market could capitulate further quickly from these levels has no warrant. According to Defi Llama, DeFi whales are not over-leveraged as only a few millions of dollars of Ethereum (ETH) liquidatable positions are above $1000 level. It would take an immense external shock to trigger another liquidation cascade.
Last year was brutal with every rally ending in new lows. In an attempt to fight inflation, the US Federal Reserve raised interest rates on multiple occasions, affecting all risk assets in that process. However, with signs of inflation cooling down recently, the Fed has decreased rates from 75 bps to 50 bps in December. With the crypto market de-leveraged (though we don’t know about CeFi leverage) and a possible dovish outlook for the rest of the year even with uncertainty looming, we could be back at a slow pace. Or maybe not, we do not know for sure. Only time can tell.
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Disclaimer: This article was authored by Giottus Crypto Exchange as a part of a paid partnership with The News Minute. Crypto-asset or cryptocurrency investments are subject to market risks such as volatility and have no guaranteed returns. Please do your own research before investing and seek independent legal/financial advice if you are unsure about the investments.