An unusual phenomenon called “backwardation” occurs with Bitcoin (BTC) Futures trading, mainly the June contract which expires on June 25th.
The fixed month contracts usually trade at a slight premium, suggesting that sellers are charging more money in order to withhold settlement longer. Futures should also trade at an annualized premium of 5% to 15% in healthy markets, in line with the stablecoin borrowing rate. This situation is known as contango and is not exclusively limited to crypto markets.
Whenever this indicator fades or goes negative, it is an alarming red flag. This situation is known as backwardation and indicates a bearish sentiment.
As shown above, there has been a healthy 0.1% to 0.5% premium for most of the past three weeks. This corresponds to an annualized rate of 2% to 9%, so it fluctuates between slightly negative and neutral.
When short sellers use excessive leverage, the indicator turns negative, which it did on June 17th. However, with only one week left to expire in June, traders should use longer-term contracts to confirm this scenario. As the contract nears its final day of trading, traders are forced to extend their positions, resulting in exaggerated moves.
The September futures have a premium of 1.7% or more compared to the spot markets, on an annual basis around 7%. This suggests loss of appetite from longs, but far enough away from backwardation.
What’s really going on?
The final piece of the puzzle is the funding rate for perpetual contracts, which is the preferred tool for retailers. In contrast to monthly contracts, perpetual futures prices (inverse swaps) are traded at a price very similar to that on regular spot exchanges.
This condition makes life a lot easier for retailers as they no longer have to calculate the futures premium or manually extend positions that are nearing expiration.
The funding rate is automatically calculated every eight hours by longs (buyers) when they ask for more leverage. However, if the situation is reversed and shorts (sellers) are too heavily indebted, the funding rate will be negative and they will pay the fees.
Since May 24th, the funding rate has fluctuated between a positive 0.03% and a negative 0.05% per 8 hours. For example, in the most bearish moments, short positions paid 1% per week to hold their positions.
By comparison, Longs paid 0.12% per 8 hours on April 13, which is 2.5% per week.
While many traders refer to backwardation as a bearish signal, there is currently no evidence of excessive leverage from shorts. As a result, the lack of buyer interest in the June contract does not accurately reflect general market sentiment. Had traders been effectively bearish, both longer-term futures and perpetual contracts would show this trend.
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