New Year, New Bitcoin Breakout - levels to watch. A primer on Bitcoin Futures & Perpetual Swaps - what do they tell us? How 2 restaurants fared during the crisis - Cheesecake Factory vs. Domino's Pizza.
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The Bitcoin Economic Calendar:
Week of Monday January 4th to Sunday January 10th.
Bitcoin: New Year and new all time high for Bitcoin. 2021 started out with a bang - Bitcoin quickly moved through the $30k level and reached a high of nearly $35k before settling the week at $32,380 for a total gain of 26% in the first week of trading of 2021.
The holiday period seems to really cemented the Bitcoin narrative across retail investors and signs of more retail activity are starting to appear. This has been good for Bitcoin price, however, when things start getting overheated, it is possible that more volatility will ensue. Interestingly, Bitcoin's volatility, as defined by the magnitude f its price moves in a short period of time, has been on a tear, it is just hard for many to be "upset" about it since it has been to the upside.
With that said, let's look at some of the signs of increasing speculation activity:
Dramatic increase in Futures Funding Rates: the Funding rate for the Bitcoin Perpetual Swap contract on the FTX platform has increased 3X over its 30 day moving average. We will dive deep into the Bitcoin Futures markets in today's market trends section.
Rise in Altcoin market cap: Dogecoin rose 131% last week. We are also seeing positive futures funding rates in perpetual swaps that are 3X higher than their 30-day moving average for assets such as XRP, EOS and others. Ethereum's monster rally yesterday helped it close the week up 43.46%. There has been absolutely no mention of these assets in the larger investor narrative that has brought bitcoin to these heights.
We'll talk about what we can expect for Bitcoin this week in our What's Ahead section.
S&P 500: The index "gapped" higher on Monday and never looked back, closing the year at a historical high of 3,556, up 1.43% for the week. The rally was on the back of the newly signed stimulus bill, which saw stocks like Alphabet (Google), Amazon, Disney, Tesla and even Facebook (amidst an anti-trust lawsuit) lead the market to a record close. The background continues to be positive although there may be some headwinds with shutdowns and travel restrictions as winter continues in large part of the developed world and the new strain of the virus continues to cause disruptions. These headwinds can affect everything related with tourism and the service industry - with delivery-first options being the clear winners in these trends (over dine-in first concepts). For an example using 2 publicly listed restaurant chains, let's compare Domino's Pizza vs. Cheesecake Factory - as we can see from the chart below (Domino's is the red and green candle sticks and Cheesecake Factory is the orange line on the chart), there is a clear difference in trends - with Dominos being up over 30% during 2020, and Cheesecake Factory closing the year with a small loss.
Gold: Signs of life in gold to end the year with the metal closing the week up 1% at $1,897 per once. In a market as large as gold, a 1% move is still quite significant. However, gold allocations can come under pressure early in 2021 as meetings with fund managers have a hard time defending large gold allocations without any exposure to bitcoin. While there should be more demand for gold in general - the relative opportunity cost to bitcoin in portfolios can create a headwind in gold vis-a-vis bitcoin prices to the upside.
DeFi: Last week was an euphoric week in the altcoin markets. As we mentioned above, Ethereum rallied 43% - and that helped the DeFi index have a monster week of its own, up 29% for the period. Enforcement actions against Ripple have continued to put a headwind on some alts but it has not been enough to contain the pressure of speculators diving into the space at a ridiculous rate. While yet again, we see that the DeFi index continues to underperform the protocol level assets, (in this case actually slightly surpassing Bitcoin but significantly underperforming ETH), it is becoming evident that the market dynamics are shifting rather quickly. The influx of speculator activity will bring about a lot of volatility in alternative assets - orders of magnitude above those of Bitcoin. Celebrity endorsements of obscure or unknown projects, which should also start relatively soon, tend to be a good indicator of when we can be starting to reach a local market top.
What are Bitcoin Futures Contracts?
Simply put, futures contracts are contracts to buy/sell a commodity or good and deliver it at a set date in the future. The need initially arose from farmers trying to sell their future crops, and lock in prices to avoid volatility. The first Futures Agreement dates back to the Code of Hamurabi - in around 1750 B.C. - with the first modern version of it being Osaka's Dojima Rica Exchange in 1710's Japan. Fast-forward to today, and Bitcoin producers that can estimate how much they can deliver in the future - or miners, also have a market for their future bitcoin. Of course, the market is not just limited to miners. Because futures markets are so well established in traditional finance, they present a familiar venue for many market participants to get exposure to Bitcoin's price.
Futures contracts can be "physically settled", or "financially settled". Physical settlement means that the buyer of the contract receives the actual underlying asset (whether that is a barrel of oil, or 91 metric tons of rice, or five Bitcoins), at the contract expiration date. Airlines and trucking companies are big participants in the oil futures markets to hedge their fuel costs into the future. Same with food processors and food-related futures markets. In the Bitcoin world, the first "natural" sellers of future bitcoin were thought to be miners. Today, participation in the futures markets ranges from institutions, to proprietary trading desks, hedge funds and OTC desks.
For example, the Chicago Mercantile Exchange's Bitcoin futures contract is for five (5) bitcoin, and trades for six consecutive months inclusive of the 2 nearest Decembers. Below are the contracts available at the time of writing:
For more context, at the time of writing the Kraken June delivery contract is trading at $36,043. That represents a current premium over spot of 8%.
What are Perpetual Future Swaps?
Bitcoin also popularized the concept of Perpetual Future Swaps. This is a futures contract that does not have a settlement or expiration date. It closely tracks the underlying asset's spot price and "settles" every 8 or 12 hours with an interest payout between investors who are long and investors who are short the contract to reach a balance between the 2. In summary, if more people are long than short, then long investors must pay a percentage to short investors (to motivate longs to close positions), and vice versa. The mechanics are complex, and we could do an entire episode about it, but the important thing to understand for now, is that in these contracts, the aforementioned interest payouts are called the Funding Rate. And they can tell us _a lot_ about how investors are using these tools.
A positive funding rate means that there are more investors long the contract than short, conversely, a negative funding rate means there are more people short the contract than long. Let's look at some funding rates below for major assets across major exchanges:
A few things stand out from the rates above. First, as you can see the funding rates on both Bitcoin and Ethereum are significantly positive at the time of writing - meaning that people are significantly more "long" on these assets. We can also see that XRP's funding rate is negative on FTX - this means that more people are short the contract than long. This is somewhat to be expected given the recent news. The fact that XRP's funding rate is positive in Binance means that there is heavy speculation activity to the upside on that platform.
Another interesting thing about Perpetual Futures Funding Rates is that because we know how often they happen (3 times a day in the case of the chart above), we can determine an annualized interest rate that the holders of any contract would be paying or receiving (depending on whether they are long or short). In the case of Bitcoin on the Binance platform, users of the contract are paying 169% annualized interest to be long the contract. That is a very high amount of interest to be paying - which is only profitable if (a) the client is utilizing a lot of leverage, and/or (b) the directional move outpaces the interest cost.
This reveals other interesting characteristics of perpetual futures. For one, they are tools for speculation, as they only provide price exposure to the asset, but never let you own the asset itself. Additionally, the utilization of leverage is very prevalent in futures platforms, which makes it a high-stakes game. As we can see, funding rates on Perp Swaps can provide tremendous insights as to how short-term speculators are positioning themselves in the markets.
We are still sitting at 18.67 TH but as it is to be expected we are already seeing some pent up hashrate come back into the network with the next difficulty adjustment showing a move up to 19.63 TH or up 4.30%. Although we usually get difficulty adjustments on Sunday evenings, the increase in hashrate may push this one up to Friday evening or Saturday. Fortunately the mempool has handled the recent price action quite well and transaction speeds are normal. We'll keep you posted of any relevant updates throughout the week.
The new year has started with Bitcoin on price-discovery mode, having reached $35k just 19 days after breaching the $20k level. As we have mentioned here in the past, there are likely corporate boards and investment committees around the world working through the process of allocating some bitcoin to their portfolios. What we may be witnessing here is a retail "front running" of the highly anticipated corporate purchases. We can see the increase in retail and speculator activity by the ballooning futures funding rates and levitating meme coins. Fortunately, these institutions may not be as price-sensitive to their allocations as investors in the previous Bitcoin rallies. Recent events have more than validated the decisions of the earlier pioneers, and the trend seems to be reinforcing rather than weakening. We expect to see several more announcement in the days and weeks to come.
Separately, alongside the newly approved stimulus package out of the U.S., the reopening of traditional financial markets may bring about a wave of new capital from investment rotations. In some markets, investors are motivated to sell "loosing positions" before year end to realize the capital loss and redeploy the capital early in the new year. Some of this capital to be redeployed could be looking to go into bitcoin. This may present a tail wind in the weeks to come.
As to how far Bitcoin can go, as we mentioned in last week's issue, option markets were showing activity at the $32k level for June - we saw that level get breached over the weekend. Next level up was the $40k contract for June. While we don't expect to be there by next week, do expect some turbulence, particularly outside of Bitcoin - in assets with smaller market capitalizations, given new high levels of leverage being introduced to the markets with a new wave of speculators and "quarantined" retail traders entering the mix.
No relevant earnings for Bitcoin this week.
Canadian Central Banking Updates:
Current Target Interest Rate: 0.00 - 0.25%
Current Overnight Money Market Rate: 0.23%
U.S. Central Banking Updates:
Current Fed Interest Target Rate: 0.00 - 0.25%
Current Effective Federal Funds Rate: 0.09%