Bitcoin's 4% Fall Resets Overheated Funding Rates

• Bitcoin Experiences Decline, Validating Options Market Warnings
• Understanding Perpetuals and Funding Rates
• The Role of High Funding Rates
• Return to Normalcy in the Crypto Market
• Decline in Futures Open Interest

Bitcoin Experiences Decline, Validating Options Market Warnings

Bitcoin$42,260 -0.64% (BTC) experienced a decline in the early hours of Monday, corroborating the cautious signals from the options market last week. The 4% fall to $42,000 has effectively tempered the over-excited crypto perpetual futures market, paving the way for a steady climb into year-end.

Understanding Perpetuals and Funding Rates

Perpetuals are futures devoid of any expiry, maintained by a funding rate mechanism that assists in aligning perpetual prices with the index price. Funding rates are regular payments of an asset between long (purchase) and short (sell) position owners, which are computed and collected by exchanges every eight hours. If the funding rate is positive, it implies the perpetual contract is trading at a premium to the spot prices, with longs dominating and paying shorts to keep their positions open. A negative rate suggests the opposite.

The Role of High Funding Rates

A substantial funding rate, usually exceeding 0.10% (for eight hours), is perceived to represent excess bullish leverage or overcrowded long positions. Data from Velo Data indicates that funding rates for BTC, ETH, and other major cryptocurrencies consistently hit the 0.15% mark in the second half of last week, indicating an overstimulated leveraged market. As the price drop has shook overleveraged bulls from the market, funding rates for most coins have receded to below 0.1%.

Return to Normalcy in the Crypto Market

The early Asian session market-wide price drop has normalized the situation, leaving the funding rates for most coins in a healthy territory below 0.1%. This is an indication that overleveraged traders have been weeded out of the market. Funding rates or costs associated with leverage become burdensome when the momentum stalls, forcing overleveraged traders to exit and causing minor setbacks in bullish/bearish progression.

Decline in Futures Open Interest

The top 25 cryptocurrencies have noticed a decrease in futures open interest in the past 24 hours. This market-wide decline in the notional open interest, or the dollar value locked in open crypto futures contracts, suggests a similar trend. As of the time of writing this, XLM, UNI, LINK, and XMR demonstrated a double-digit decline in open interest for the past 24 hours. Open interest in Bitcoin and Ether also decreased by 1.3% and 6.7% respectively.

Edited by Jonathan Stoker