Ether's perpetual futures funding rates have soared to levels unseen since before August's global liquidation event. What are the market implications?
During that period, major cryptocurrencies like Bitcoin and Ether plummeted alongside stocks, each losing over 20% of their value. In an interview with The Block, Gordon Grant, a derivatives trader, has issued a warning that the crypto perpetual futures market is still at risk of similar over-leveraged position-driven sell-offs.
Currently, the open interest-weighted funding rate stands at 0.0116%, marking the highest level since July 29, when Ether was trading at $3,316. This spike occurred just before a dramatic 22% price crash in early August, according to data from Coinglass.
The August crash was primarily caused by a global stock market downturn following the Bank of Japan’s unexpected interest rate hike. This move led to an unwind of the yen carry trade, which shocked the market from the outside.
Grant explained that the highly leveraged crypto derivatives market likely amplified the impact of this shock. Speaking to The Block, Grant highlighted that changes in the makeup of perpetual futures market participants reveal vulnerabilities within the cryptocurrency market. Should another external shock similar to the yen carry trade unwind occur, the market could experience significant turmoil once again.
Market Risks Rise from Ethereum Options Strategies
In August 2023, a significant market position involved an oversized Ether overwriter who sold calls and hedged with long futures. This strategy contributed to substantial market volatility when unwinds occurred. Ethereum’s on-chain activity has been growing, particularly with new decentralized finance (DeFi) protocols like Ethena attracting users.
Ethena employs a strategy that involves farming stablecoins to generate a delta-neutral yield by buying Ether while simultaneously hedging risk using perpetual futures. However, this approach increases exposure to funding rates, meaning negative rates could result in substantial losses.
Grant warned, “There are now bigger positions than before carrying such shorts which could essentially spiral out of control in a persistently negative funding environment.” With billions of dollars in short futures positions against long and staked spot holdings, a sudden downturn in funding rates could lead to losses amounting to tens of millions within hours.
Grant also pointed out the role of DeFi lending protocols in these market dynamics. While they provide solutions, the absence of large blocks of coins available for borrowing to short against long futures positions—unlike what exists in centralized finance (CeFi) lending—means that market unwinds could be more prolonged and painful compared to traditional finance systems.
Chip Stocks and Geopolitical Tensions Threaten Markets
Several other factors are also influencing the current market conditions. There are concerns about potential pullbacks in high-performing chip stocks like Nvidia. China’s impressive recent stock rally has begun to slow, and tensions in the Middle East continue to spread. When combined with the existing leverage in the crypto market, these factors could trigger a sharp market downturn.
Grant emphasized the importance of monitoring broader risk assets such as chip stocks and geopolitical developments. He said:
“This is all the more reason to watch out when the worm turns on broader risk assets such as chip stocks or when geopolitical shocks threaten to rattle the cages of equity market beta proxies, including crypto where pockets of short gamma may exist in and around the U.S. election even.”
A specific risk highlighted by Grant is the possibility of a large long position being carried in perpetual contracts. Such a scenario could drive funding rates to unusually high levels, only to see them crash during a liquidation event similar to what happened on August 17, 2023.
Ethereum is currently at the $2,600 level, up 11% YTD.
