U.S. bitcoin spot exchange-traded funds (ETFs), the fundamental drivers of markets since the start of the year, finally caught a breather as a five-day streak of continuous outflows halted on Monday. .

The largest digital asset in the market recovered above the $70,000 mark. The pullback was primarily led by a combination of net flows into ETFs and a dramatic increase in funding rates for bitcoin perpetual futures on several exchanges.

Market sentiment is improving, and the fundamental situation has not changed: limited supply, increased demand and an improvement in the US net liquidity outlook.

US bitcoin spot exchange-traded funds (ETFs), the fundamental drivers of Bitcoin markets since the beginning of the year, finally took a breather when the five-day streak of continuous outflows came to a halt on March 25th. Although net ETF flows were still below $20 million on Monday, the market reacted quickly, improving sentiment and reversing last week's selling with bitcoin prices back above $70,000. The sale was not only driven by the general decline in demand for ETFs but also by reduced Tether minting activity, which is a key indicator of the market entry process.

Additionally, it was driven by steeply increasing funding rates for bitcoin perpetual futures on centralized exchanges (CEXs). Perpetual futures, often referred to as perps, are of key importance in crypto markets as they provide market participants with a forward contract that has no expiration date; becoming the basis of the fashionable cash and carry variable rate operations.

Participants slightly mitigate some of the costs involved in carry trading, when things are going in the right direction, as rollover costs cancel out, and perpetual futures tend to track spot prices better than dated futures. .

However, things don't always go well and that's what happened last week. Perps are essentially swaps, where the different CEXs provide investors with a synthetic asset, built on their proprietary indices and price aggregators, where buyers (sellers) must pay (receive) a financing rate to sellers (buyers) depending whether futures trade at a premium or discount to their underlying index.

Although the structuring of the funding rate is minimally different between CEXs, it is generally determined several times a day based on the difference between the futures price and the index price. If it is below 5 basis points, the financing rate is normally waived and becomes zero.

Essentially, the funding rate encourages short positions as they are funded when the market has a long bias, and this is what happened last week. Funding rates were above 30% on some CEXs and eventually became too expensive for leveraged longs to sustain, causing a short bias in contracts. Although these mechanisms move markets in short-term horizons, they do not alter the fundamental background in the medium and long term.

Looking ahead, fundamentals remain largely unchanged in our view: demand for spot ETFs, a limited supply timeline, a bitcoin halving that will likely bring further supply constraints, and net liquidity in the US. which has continued to rise since the decline in reverse repo programs after the third quarter of 2023.

Note: Investments in digital assets are exposed to high risks of fraud and loss and price fluctuations. Manuel Villegas, Digital Asset Analyst, Julius Baer

Manuel Villegas, Digital Asset Analyst, Julius
Baer

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