Bitcoin futures open interest near ‘alarm raising’ $24B level — Are bulls at risk?

BTC futures open interest approaches a record high and today’s sharp sell-off triggered alarm from traders.

Bitcoin (BTC) took a shot at $53,000 on Feb. 20, briefly surpassing $52,900 before correcting as the result of $50 million in leveraged long liquidations. Nevertheless, even with a drop to $50,750, Bitcoin futures open interest remains at $23.7 billion, which is just 2.5% below its all-time high in April 2021.

In April 2021, the open interest figure peaked at $24.3 billion but failed to break the $64,900 resistance, leading to a 27% correction in 11 days. With the current strong demand for BTC futures contracts, investors are contemplating the possibility of a similar outcome.

Some traders argue that the rise in Bitcoin futures open interest indicates excessive borrowing, but this is not universally accurate. Every derivatives trade requires a buyer and a seller of the same size and an investor may be fully hedged even when utilizing leverage, such as buying monthly BTC futures and simultaneously selling an equivalent amount of perpetual contracts if a favorable price difference exists.

The profile of Bitcoin futures traders has changed over time

The historical high of $24.3 billion in open interest does not carry significant weight on its own. In 2021, Binance, fueled by retail flow, led in BTC futures market share, while the current dominance is held by CME, primarily composed of institutional investors. While this data does not eliminate the possibility of a sharp Bitcoin price correction driven by derivatives markets, it does reduce the likelihood.

One could argue that high open interest increases the potential for cascading liquidations, which is a valid point. However, for such conditions to materialize, there must be significant borrowing in the system, a scenario less likely with CME contracts requiring a 50% deposit margin. Similarly, Deribit traders tend to adopt a more conservative approach compared to Bybit, resulting in different liquidation levels. In essence, aggregating the entire BTC futures open interest as a single pool lacks logical coherence.

Irrespective of the leverage used, one can assess the optimism of professional traders by examining the Bitcoin futures premium. In normal markets, these contracts should trade 5% to 10% higher than regular spot markets to account for their extended settlement period.

Referred to as the basis rate, the Bitcoin fixed-month contracts premium recently peaked at 17% on Feb. 20 as its price approached $53,000. Currently, the indicator stands at 14%, indicating that the drop to $50,750 did not dampen bullish sentiments. Notably, these figures are annualized, resulting in a 1.1% cost for carrying a leveraged long position for one month.

Related: Bitcoin holdings on Coinbase reach lowest level since 2015 as whales withdraw $1B BTC

Bitcoin perpetual contracts did not share the same bullishness

Interestingly, other metrics, such as perpetual contracts (inverse swaps), did not mirror the same bullish bias. These derivatives, also known as inverse swaps, incorporate an embedded rate typically recalculated every eight hours, signaling excessive demand for leveraged long positions.

Data indicates that BTC funding rates have remained essentially flat for the past couple of days at 0.015%, equivalent to 0.3% per week. Typically, in situations driven by excessive optimism, the rate can easily exceed 1.0% per week. Hence, traders using perpetual contracts did not exhibit the same bullishness observed in the fixed-month markets.

Considering Bitcoin’s 4.2% price oscillation on Feb. 20 and the liquidation of only $50 million in long futures contracts, one can infer that overall bullish leverage remains healthy. Moreover, the modest premium in BTC perpetual contracts rejects any hypothesis of excessive leverage from retail traders. Consequently, there is no indication of an imminent sharp correction triggered by leveraged long liquidations.