Biweekly, IntoTheBlock provides on-chain analysis of prominent crypto news, utilizing blockchain transparency. Machine learning extracts key data for in-depth insights into industry developments.
An Overleveraged Crypto Market Leads to a 20% Drop
On the morning of September 7, the overall sentiment in the crypto market was positive as El Salvador commenced the enforcement of its Bitcoin law, acknowledging Bitcoin as legal tender. Initially, the price action for Bitcoin displayed bullish candles, maintaining a stable position and giving the impression of bidding farewell to the $50K price band. However, within a few hours, all of the crypto market started to sell-off significantly. substantial sell-off unfolded across the entire crypto market.
In a swift turn of events, the crypto market capitalization plummeted by -20%, nosediving from $2.37 trillion to $1.97 trillion in just 12 hours. Subsequently, there was a rapid recovery to approximately $2.0 trillion, the current value at the time of writing, translating to a -15% decline over the last 24 hours. This abrupt price downturn had a parallel impact on both Bitcoin and Ethereum.
Bitcoin experienced a substantial price decline of -19%, plummeting from $53,000 to $43,000, whereas Ethereum saw an even more pronounced drop of -23%, falling from $3,900 to $3,000. The subsequent rebound and swift recovery resulted in an 11% upturn for Bitcoin, reclaiming some ground from the dip, while Ethereum demonstrated a more robust recovery of 18%.
Considering the recent rebounds and the latest price action data, the observed reductions stand at -14% for Bitcoin and -15% for Ethereum at the time of writing. Despite these downturns, Ethereum’s 11.26% price increase in a month-over-month performance is outpacing Bitcoin, boasting an 11.26% increase compared to Bitcoin’s more modest 5.48% price uptick.
The data highlights Ethereum’s higher volatility compared to Bitcoin, yet its recent price performance remains superior to Bitcoin’s even amid significant market drops. Despite frequent market sell-offs, this particular downturn did not push the month-over-month return into negative territory, and prices are hovering around last week’s levels, indicating resilience in the face of market fluctuations.
Contrary to attributing the price crash solely to a “buy the rumor, sell the news” strategy related to El Salvador’s law, the data shows that the market was heavily leveraged. The sell-off was triggered by market sell orders, leading to a cascade of liquidations on long positions in the futures derivatives markets. This cascade effect substantially intensified the price decline, revealing the role of leverage in exacerbating market movements.
Bybit liquidation data reveals that over $3 billion has been liquidated in derivatives positions, with over 92% of these being long positions. The majority of these liquidations, totaling $3 billion, occurred in Bitcoin ($1.42 billion), followed notably by Ethereum ($949 million) and Ripple ($225 million).
This is the biggest number of liquidations since the May 19 crash.
Analyzing IntoTheBlock data, there’s a noticeable decline in open interest for perpetual futures derivatives in Bitcoin. The open interest, representing the dollar amount of open positions, has dropped from $16.5 billion to $11.75 billion. It’s important to note that these positions typically involve significant leverage, and the decrease in open interest suggests a reduction in overall exposure in the market.
The decrease in open interest can be attributed in part to liquidations, forcing specific positions to close involuntarily. Additionally, traders opting to close their positions voluntarily, even without facing liquidation, contribute to this reduction. This proactive decision to close positions is a common response during periods of heightened market volatility.
Open interest data can be put into context by comparing it with the market capitalization of the coin. This comparison allows for the derivation of a ratio that considers perpetual futures activity relative to the total value of all coins in circulation. Specifically, this ratio pertains to the open interest of perpetual swaps relative to Bitcoin’s market capitalization, and its upward trend indicates an increasing prevalence of bullish leverage positions in the market.
The chart illustrates that when the notional value of open interest exceeds 1.55%, the market has historically undergone a reversal, leading to swift and impactful price movements. This threshold serves as an indicator, suggesting that elevated levels of open interest relative to market dynamics may be associated with significant market shifts.
Were investors quick to seize the opportunity and purchase during the market downturn? The exchange flows indicator tracks patterns of funds being deposited into and withdrawn from exchanges, shedding light on trader behavior during the dip.
Net flows are positive when more funds are entering than leaving exchanges, and net flows are negative when a greater volume is being withdrawn from exchanges. As it can be seen on Sept. 6, the total balance of Bitcoin that left exchanges was more than the amount entering the exchanges by 8.3K BTC, which is around $428M. This means that many traders and investors took the advantage to buy Bitcoin and send it from centralized exchange to wallet addresses, which supposedly minimizes further selling pressure since the coins need to be located in exchange addresses for them to be able to be sold.
On September 6, net flows were positive, indicating that more funds were entering exchanges than leaving. The total balance of Bitcoin leaving exchanges exceeded the amount entering by 8.3K BTC, equivalent to approximately $428 million.
This means that many traders and investors took the advantage to buy Bitcoin and send it from centralized exchange to wallet addresses, which supposedly minimizes further selling pressure since the coins need to be located in exchange addresses for them to be able to be sold.
Executing this strategic move is believed to alleviate potential selling pressure, as coins must be located in exchange addresses to facilitate their sale.
While the rapid rebound following the sell-off reflects trader confidence, the price action on September 7 is not decisively bullish at this point. Subsequent price discounts would not be unexpected given the current market conditions.
Historically, September has been the month with the worst returns on average for the crypto markets. This data analysis underscores the ongoing dominance of the derivatives market in influencing price action across the cryptocurrency space.
Moreover, traders, particularly those utilizing leverage, should exercise caution when open interest reaches increasingly higher levels, and the price experiences consecutive days of growth without a substantial correction.
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