Bitcoin Futures Opened the Door to Short-Sellers, Resulting in Subsequent Crash: Study

The introduction of bitcoin futures was widely regarded as a watershed moment for cryptocurrency. But now researchers say derivatives precipitated the rise and subsequent fall of the digital asset class, mirroring a similar cycle before and after the 2008 subprime mortgage crisis.

Shedding Light on Bitcoin Futures

Bitcoin futures have long been regarded as a double-edged sword. On the one hand, they open up the crypto sphere to institutions and day traders who otherwise would not have bet on digital assets via online exchanges. On the other hand, the derivatives product gave short-sellers a much easier way to bet on declining prices.

New research from the Federal Reserve Bank of San Francisco uncovers a much stronger link between bitcoin futures and the broader market decline that occurred during the first quarter. The paper, which appeared in the Economic Letter publication on May 7, shows that bitcoin prices peaked on the very same day that bitcoin futures contracts began trading on the Chicago Mercantile Exchange on Dec. 17.

The researchers differentiated bitcoin’s transactional demand from its speculative demand, arguing that the introduction of futures made it much easier to bet on the decline in BTC. So while speculative demand had always been there, the introduction of futures made it more prominent.

Bitcoin futures got off to a rocky start but have since picked up amid the latest surge in market prices. CBOE, which was the first to launch the bitcoin futures contract, has averaged about 6,000 contracts daily since trading began back in December. That number surged to 18,210 for the May contract, easily topping the previous high set in mid-January.

An Ominous Comparison

Bitcoin’s price movement since the launch of the futures contract mirror the rise and collapse of the home financing market one decade ago. Citing 2012 research by Fostel and Geanakoplos, the Fed analysts said the initial mortgage boom was driven by new innovations in securitization and bond groupings, which attracted bullish investors. Meanwhile, the subsequent collapse was triggered by the development of new products that allowed short-sellers to bet against the market.

“Similarly, the advent of blockchain introduced a new financial instrument, bitcoin, which optimistic investors bid up, until the launch of bitcoin futures allowed pessimists to enter the market, which contributed to the reversal of the bitcoin price dynamics,” the researchers said.

As we are all well aware, the U.S. housing collapse triggered the biggest economic landslide of a generation. While no-one is suggesting that cryptocurrency will have a similar impact (it can’t due to the relative size of the market), a comparable decline would be devastating to the blockchain industry as a whole and not just cryptocurrency. This dynamic ecosystem includes exchanges, startups of all stripes and the plethora of service firms operating within the market.

Bitcoin peaked at $19,511 on Dec. 17 before a 70% reversal just a few months later knocked the market back below $6,000. The cryptocurrency has since recovered from its bear market low, with prices trading above $9,100.

Disclaimer: The author owns bitcoin, Ethereum and other cryptocurrencies. He holds investment positions in the coins, but does not engage in short-term or day-trading.

Featured image courtesy of Shutterstock.

Chief Editor to and Contributor to, Sam Bourgi has spent the past nine years focused on economics, markets and cryptocurrencies. His work has been featured in and cited by some of the world's leading newscasts, including Barron's, CBOE and Forbes. Avid crypto watchers and those with a libertarian persuasion can follow him on twitter at @hsbourgi