Surfing the spread: how derivatives traders played last week's crypto turmoil

Quick Take

  • Last week’s market sell-off pushed up spreads between BTC spot and derivatives prices significantly
  • Smart traders took advantage of these arbitrage opportunities
  • Lending desks saw two-way flows for both BTC and cash loans as traders look to borrow BTC for their arbitrage strategies 

From sweeping liquidations to exchange outages, crypto market volatility over the past week created more than a few headaches for traders.

Yet there was at least one upside that emerged amid the fray: arbitrage opportunities.

Since March 12, a significant disparity has emerged between the price for BitMEX's perpetual swaps and bitcoin's spot price. Meanwhile, the stablecoin USDT – which is supposed to be one-to-one pegged tied to the U.S. dollar – has been trading at a premium. And bitcoin futures has also reversed the historical trend of printing a higher price than spot – it has been trading at a discount instead.

"The price is definitely very volatile still, so you do see good arbitrage opportunities," high-frequency trader Mike van Rossum told The Block. 

The opportunities van Rossum referred to lie in those aforementioned price differences, or premiums, which in an efficient and stable market shouldn’t be too far away from 0.

However, last Thursday, bitcoin's price fell off the $7,900 cliff and it is now hovering around $5,800, triggering a slew of large scale liquidations and trading volumes surge.

On crypto derivatives exchange BitMEX, total open interest dropped up to 18% on March 12, most of which was wiped out by liquidation. Bitcoin futures trading volumes across all exchanges surged to an all-time high, with the largest exchanges – BitMEX, OKEx, and Huobi – seeing $11 billion, $13 billion, and $8.6 billion in trading volume on March 12, respectively. 

Futures arbitrage

As such, bitcoin futures' annualized three-month rolling basis, which calculates the price difference between futures and spot denominated by the spot price, tanked as much as -75% on crypto derivatives exchange FTX on March 13 – a state of affairs that van Rossum described as "wild." 


Source: Skew

In order to capture this spread, traders who usually long bitcoin and sell futures took a reversed strategy.

They short-sold bitcoin while purchasing BTC futures, then used the bitcoins they receive at the delivery date of the futures contract to cover the short position. Through this reverse cash and carry scheme, a trader could pocket the difference between the money she spent on the futures contracts – which are at a discount – to the money she earned from selling the BTC.

Premiums in swaps and USDT

Futures is not the only market that brews arbitrage opportunities. The premium index of BitMEX’s bitcoin perpetual swaps, which tracks the price difference between the derivatives contract and its underlying asset, tumbled to as low as -12% on March 12. During quieter times, that figure usually hovers around 0.1%.

USDT, the most liquid stablecoin on the market, also saw its premium spike to roughly 5% around the same time. This trend may continue as investors start to return to crypto now that BTC appears to have stabilized around $5,800 while equities market drags along the lower range. At least, that's the working theory at the center of an investor memo sent by crypto trading firm QCP Capital yesterday and reviewed by The Block. 

"The fact that BTC isn't being dragged by lower equities or the higher USD shows real demand from the fiat to stables new money coming in. Huge premiums in USDT and BTC in onshore China & most other Asian markets right now," the note read. 

Source: TradingView

"Lots of people are trading it [USDT] for various reasons – lots of over the counter USDT flow – creating some arbitrage opportunities," FTX CEO Sam Bankman-Fried noted in a message to The Block. 

BTC loans in demand

These movements are also reflected in the flows some lending desks were seeing over the past week. Although crypto lenders usually see more robust demand for cash and stablecoin loans with BTC collateral, the split between cash and BTC loans have been around fifty-fifty recently as traders look to borrow BTC for short selling. 

"We are seeing more 2 way flows now with BTC borrowing demand, because futures are at a discount so if you borrow BTC, you can sell spot versus buy future and earn a nice carry," said Tiantian Kullander, whose firm Amber Group runs a crypto lending desk along with other financial services. 

To meet the increasing borrowing demand for bitcoin, crypto lender BlockFi kicked up its BTC interest rate yesterday to attract people to lend out their BTC. 

"It is not too surprising to see large borrowers such as BlockFi raising the rates they can pay to borrow bitcoin or ether from their customers. They can then for instance lend at a profit to crypto hedge funds and lending desks that are looking to do the reverse cash carry trade or even implement [such a strategy] themselves," said Emmanuel Goh, who is the CEO of crypto derivatives data analytics firm Skew.

To be sure, by now, most of those premiums have been arbitraged away, as BitMEX’s premium index and BTC futures basis have reverted back to 0 and -10% range. However, there are still some spreads left for traders to capture. 

As van Rossum who primarily trades in swaps, noted, "in perp[etual swaps] the spreads aren't huge, but still plenty to go around."

© 2023 The Block Crypto, Inc. All Rights Reserved. This article is provided for informational purposes only. It is not offered or intended to be used as legal, tax, investment, financial, or other advice.