Bitcoin Leverage Ratio Plunges, Here’s What This Means

On-chain data shows that Bitcoin’s estimated leverage ratio has taken a nosedive recently; Here’s what this could mean for the market.

Bitcoin’s estimated utilization rate has fallen sharply recently

As one analyst in a CryptoQuant post pointed out, leverage has fallen in the market despite the rally. The relevant indicator here is the “estimated leverage ratio”, which measures the ratio of Bitcoin open interest to the total amount of BTC stored in all derivative exchanges’ wallets.

The “open interest” refers to the total BTC margin futures contracts currently open on all derivatives exchanges. This calculation accounts for both short and long contracts.

The estimated leverage ratio tells us the average amount of leverage used by futures market users right now. When the value of this metric is high, it means that the average contract holder is taking on high leverage at the moment.

Such a trend suggests that market participants are becoming bold and willing to take on a high risk. In general, high leverage can cause the market to become unstable. Thus, the price experiences high volatility when these conditions are formed.

On the other hand, low ratio values ​​mean users need to use more leverage at the moment. Naturally, the price is usually calmer when this trend is observed.

Now, here’s a chart showing the trend in the Bitcoin estimated leverage ratio over the past few years:

Looks like the value of the metric has sharply gone down in recent days | Source: CryptoQuant

As shown in the graph above, Bitcoin’s estimated leverage ratio had a fairly high value when the rally started in January of this year, but has since only declined.

There have been two significant dips in the metric so far; the first happened just as the rally started. This sharp decline was due to the sudden strong rally liquidating the high number of short contracts that had accumulated during the bear market, thus wiping out a lot of leverage.

This event was an example of a “liquidation squeeze.” During a squeeze, a sudden price move triggers mass liquidations that only end up feeding the price to move further, thus causing even more liquidations in the process.

As leverage piles up in the market, squeezes become more likely. This is why the market can become more volatile when leverage is at elevated levels.

The chart shows that the second plunge has come only in the past few days, with BTC witnessing a high degree of volatility, with its price fluctuating both up and down.

This trend of the leverage ratio only going down with the rally is somewhat unusual. Past rallies have generally followed the indicator following a general uptrend due to FOMO investors stepping in and opening highly leveraged positions.

As for what this strange trend in the calculation might say about the current Bitcoin market, the quant believes, “latecomers who get greedy and use crazy leverage aren’t here yet.”

BTC price

At the time of writing, Bitcoin is trading around $25,100, up 20% in the last week.

BTC displays volatility | Source: BTCUSD on TradingView

Featured image from Maxim Hopman at Unsplash.com, Charts from TradingView.com, CryptoQuant.com