Crypto Derivatives Can Predict Price Action But Need Institutional Buzz To Really Shine

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The cryptocurrency market has been under a period of stress, with the majority of the cryptoverse’s tokens witnessing a drop in prices that has set in since the first week of December. The flagship cryptocurrency token, Bitcoin (BTC), suffered a lightning crash on December 4, in which the token’s price fell below $ 50,000 in nearly two months, according to data from Cointelegraph Markets Pro.

This phenomenon was observed among the majority of cryptocurrency tokens as the market was gradually painted red. Ethereum and Ether (ETH) have become the network and token of choice for the majority of decentralized finance (DeFi) protocols, as Ether has seen a 19% price drop.

However, BTC and ETH also have a healthy futures and options market that could have played an important role in predicting this continued decline in the prices of these tokens.

Coinciding with the December 4 price drop, $ 950 million in BTC options expired, with bears having the edge over bulls even as the price traded at $ 57,000. The options data leading up to this expiration suggests that it was biased towards lower market forces due to a high proportion of puts below the $ 57,000 mark. A put option is a contract that gives the option holder the right (but not the obligation) to sell a predefined amount of the underlying asset at a predetermined price.

A call option is an option in which the holder of the option has the right to buy the underlying assets under similar conditions. The ratio of put to call options leading to an option expiration is very indicative of the prevailing market sentiment for the underlying asset. In this case, there was a clear indication that the markets were strongly bearish even a week before the expiration and the price flash that went with it.

The forces at play

Luuk Strijers, chief trading officer of crypto derivatives exchange Deribit, spoke to Cointelegraph about signs in the derivatives data that hinted at the impending crash:

“Before the weekend fix, we saw an increase in IVs likely related to post-expiration sales. There seemed to be some uncertainty in the market, and we saw risk reversal strategies being traded (Sell OTM Call + Buy OTM Put).

Since the expiration date of an option is the last date on which the option holder can decide to exercise the option to execute the order to buy or sell the sub-asset. or the holder decides to forfeit the option and let it expire becoming worthless, expirations often become important events that impact the price dynamics of the underlying asset, in this case Bitcoin.

Strijers spoke out on the impact of this particular expiration on BTC, saying: “Hard to say for sure. However, more and more people are watching the expiration and open interest levels on certain key keystrokes, which amplifies the relevance of larger deadlines. “

Adam James, senior analyst at OKEx Insights, the research arm of the OKEx crypto exchange, spoke to Cointelegraph about the signs that led to this crash: “The most obvious signs that a crash could be imminent were extremely high open interest and positive funding. These two things don’t usually bode well and often require a flush. He further added:

“The cascade sale we saw on Saturday was just the best – the slim order books over the weekend made it easy to reduce over-leveraged buying and trigger some sort of reset of the RO. As it happened, the crash was one of the biggest surrender events in BTC history.

While this phenomenon is an indication that the price of the underlying assets and the derivative markets are closely linked, the size of the markets is still only a flash of the size of the spot markets.

Institutional investors could be a game-changer

Considering the derivatives markets that exist for the two major cryptocurrency tokens, BTC and ETH – albeit with significant growth in open interest – this is a very small percentage of the spot and currency markets. its current market capitalization for their assets.

Open interest (OI) in BTC options has more than increased tenfold from nearly $ 1 billion on July 1 to around $ 11.4 billion at the time of writing. The OI hit an all-time high of $ 15.72 billion on October 20. Shortly after, BTC hit an all-time high of $ 68,789.63 on November 10.

Considering that the total market cap of BTC in the spot markets over the same time span exceeded $ 1,000 billion, it is very evident that cryptocurrency options are in their infancy and even still , play a vital role in price discovery and forecasting capabilities. for the active. A similar phenomenon is observed when we take a closer look at the OI data for ETH as well.

Cointelegraph discussed the size of the crypto options markets with Igneus Terrenus, communications manager at the Bybit cryptocurrency derivatives exchange: The options market appears to be inadequate for institutional and retail traders.

This could be a game-changer for institutional investors to enable drastic changes in the crypto derivatives market by exponentially increasing the size, liquidity and depth of these markets. Goldman Sachs, the investment banking giant that relaunched its old cryptocurrency trading desk amid this bull run, predicted that the cryptocurrency options market could be seen as the next frontier for the institutional adoption of crypto. Wall Street Bank itself has announced plans to expand its crypto trading desk to engage with BTC and ETH derivatives as well.

However, Strijers explained that institutional investors entering the crypto derivatives market are a slow process, especially due to Know Your Customer (KYC) and due diligence processes. He said: “In November, we onboarded more institutional clients than any month before – the bigger the company, the longer the mutual integration process. ” He added :

“Now these large clients have an extensive platform and due diligence process, especially those who offer third-party asset management in one form or another, such as multi-billion macro funds. dollars, for example. ” Other Altcoins are catching up.

Currently, there is a liquid options market that only exists for BTC and ETH on various cryptocurrency exchanges like Deribit, LedgerX, OKEx, FTX and even the Chicago Mercantile Exchange (CME), the largest commodity exchange. derivatives in the world for traditional asset classes.

However, there are no options products available for other important cryptocurrency tokens like XRP (XRP), Solana (SOL), Binance Coin (BNB), Polkadot (DOT) and many more. , although these tokens have a very liquid spot market and even a futures market.

Strijers further explained the reasoning behind this existing scenario: “We plan to make SOL products available soon. Beyond that, it remains to be seen as we need proper market maker coverage at all times, including, for example, on Sunday evenings and other times, during all strikes and expirations. . We can’t have a handful of market makers, but we need a lot more.

Related: Cryptocurrency Derivatives Market Shows Growth Despite Regulatory FUD

Nonetheless, there is also a liquid futures market available for several of the major cryptocurrencies, including even the Dogecoin coin (DOGE) and the native non-fungible token (NFT) Axie Infinity (AXS) token. Even still, the OI of these tokens’ futures hasn’t even hit $ 1 billion despite the market entering one of the longest bull runs the ecosystem has ever seen.

The token, aside from BTC and ETH, that has the highest OI for its futures contracts is SOL, standing at almost $ 870 million at the time of writing. Next is DOT, with an OI of $ 573 million, followed by BNB with an OI of $ 521 million.

Since all of these altcoins have a cash market cap of over $ 50 billion, the futures market for these tokens is currently only a small proportion of their total market cap. This indicates that even though there is a liquid futures market for these assets, its size is very small to have a significant impact on the price, although they do play a role in discovering the price of the underlying token.

While institutional and retail adoption of cryptocurrencies is expected to grow in leaps and bounds over the past year, their involvement on the derivatives side of the market will also increase over time, particularly once institutional giants like Grayscale will come to the fore and get heavily involved. in this market, pushing the market and price efficiency for these assets.

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