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The unseen influence of market makers likely contributed to bitcoin’s recent decline.
Invisible hands likely accelerated BTC‘s recent crash.(Michael M. Santiago/Getty Images)
Key points:
- Bitcoin’s decline from roughly $77,000 to close to $60,000 was not solely due to macroeconomic factors and ETF sell-offs, but also influenced by the actions of options market makers in hedging their positions.
- Options market makers were significantly short gamma within the $60,000 to $75,000 range, which compelled them to sell bitcoin in both spot and futures markets as prices decreased, exacerbating the drop.
Bitcoin dropped sharply earlier this month to around $60,000, resulting in significant losses across the cryptocurrency market and affecting several trading funds adversely.
Many analysts attributed the drop to broader economic influences, such as the liquidation of spot ETF holders and possible rumors of funds liquidating their positions. However, an additional, less visible factor that usually helps maintain orderly trading appears to have played a significant role in driving the spot price lower.
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This factor consists of market makers, or dealers, who consistently provide buy and sell orders in the order book during trades, ensuring robust liquidity so transactions proceed smoothly without major delays or price shifts. They consistently act as the counterparty to investors’ trades and profit from the bid-ask spread, the minor difference between the buying price (bid) and the selling price (ask) of an asset, without speculating on price movements.
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They mitigate their exposure to price fluctuations by trading actual assets (like bitcoin) or related derivatives. Occasionally, these hedging actions can inadvertently accelerate existing market trends.
Such was the case between February 4 and February 7, when bitcoin fell from $77,000 to nearly $60,000, according to Markus Thielen, founder of 10x Research.
This incident illustrates how the options market for bitcoin is increasingly influencing its spot price, akin to traditional markets where market makers quietly enhance volatility.
Thielen noted that options market makers were “short gamma” between $60,000 and $75,000, indicating they held significant short (call or put) options at these levels without sufficient hedges or protective measures. This situation left them exposed to price volatility at these critical levels.
As bitcoin dipped below $75,000, these market makers sold BTC in the spot or futures markets to rebalance their hedges and maintain price neutrality, thereby adding additional selling pressure to the market.
“The existence of approximately $1.5 billion in negative options gamma between $75,000 and $60,000 was pivotal in exacerbating Bitcoin’s decline and clarifies why the market rebounded sharply once the final large gamma cluster near $60,000 was triggered and absorbed,” Thielen remarked in a note to clients on Friday.
“Negative gamma implies that options dealers, who generally act as counterparties to investors purchasing options, are compelled to hedge in the same direction as the price movement of the underlying asset. Therefore, as Bitcoin fell to the $60,000–$75,000 range, dealers became increasingly short gamma, necessitating the sale of bitcoin as prices decreased to remain hedged,” he elaborated.
In essence, the hedging activities of market makers created a self-perpetuating cycle of declining prices, compelling dealers to sell more, which further drove prices down.
It is important to note that market makers’ hedging is not exclusively bearish. In late 2023, they were similarly short options above $36,000. As Bitcoin’s spot price climbed past this threshold, they acquired BTC to rebalance, igniting a swift rally above $40,000.
