When it comes to bitcoin, there is still a lot of mystery. Sometimes it seems like the price just has a mind of its own.
It’s volatile that’s for sure, but what everyone wants to know is why.
Lately bitcoin has been in nothing short of a slump. For the past month or so it’s been on a steady (at least by bitcoin’s standards) decline.
But overnight, something happened.
Bitcoin price shoots up
Bitcoin’s price was trading at around US$6,900 and treading water. Then, in the span of 25 minutes, it shot up 16% to US$8,000.
Since then, it has eased back slightly to US$7,896 at time of writing, but it’s still an impressive rally.
Though the question on everyone’s lips is, why?
Some people pointed to the conflict in Syria. Noting that bitcoin has surged in the past when North Korean threats played out in the media last year.
Others believe that trading ‘whales’ like George Soros could be making their debut in the market. With his $26 billion family office reportedly looking to start trading the digital currency.
Whether these factors played a part we can’t confirm or deny. What we can tell you though is that there was a lot of trading going on overnight. With trading volumes doubling in the space of just a few hours.
The reason for this increased trade was simple — bitcoin shorts.
Over US$150 million worth of bitcoin shorts were liquidated overnight on just one exchange — Bitmex.
A short or short position for those that don’t know is a unique type of trade. An investor will make a short trade when they believe the price of an asset, in this case bitcoin, will decrease.
The short trader will borrow the money to buy bitcoin from a broker, in this case Bitmex, and sell them on the market at the time of the trade. The key condition though, is that they agree to buy the same amount of bitcoins back at a later date.
If the price has declined when the trader buys the bitcoins back they have made a profit. But if the price increases they make a loss. The way this works is simple, here’s an example to show you:
The trader sees Bitmex is trading bitcoins at US$5,000 and they believe this price is too high. So, they initiate a short trade.
The trader borrows $5,000 from Bitmex for the trade, but will have to supply one bitcoin to Bitmex at a later date. In other words, they agree to buy one bitcoin with Bitmex’s money at a later date.
After a period of time, bitcoin’s price sinks to US$3,500. The trader believes this is an attractive price and decides to buy one bitcoin and settle his debt with Bitmex.
But, because the price is only US$3,500 the trader settles his obligation to Bitmex and keeps the remaining US$1,500 for himself. This is his profit.
That’s a very simplified example, but it’s a good introduction to the basics of shorts.
The other thing to keep in mind is that just like any trade, shorts can use stop-losses. A trader can limit their risk of prices rising (which would net them an overall loss) by setting buy orders.
Well, overnight bitcoin traders decided to push the price higher and see if this stop-losses would be hit. Forcing short sellers to cut their losses and buy more bitcoin which again pushes prices higher.
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As one analyst from Medium states,
‘Do not think that someone bought huge amount of BTC or some ridiculous Rothschild/Soros family suddenly entered the crypto space. Institutional money hasn’t flowed in either. This was just stop loss trading. That’s why it went up so fast and that’s why every breakout is big. No big individual buying/selling here, everything is done automatically with walls that are made by whales.’
It may not be the sole cause for the price rally, but it was in all likelihood the most significant.
Whether that means bitcoin will be able to maintain this current price is unclear. But clearly the market is still facing problems with manipulation and volatility.
However, if you can see the signs and follow the market, there is money to be made with bitcoin. Find out how bitcoin can be a valuable part of your investment portfolio with our free report, right here.
Junior Analyst, Markets & Money