Investors have flocked into
trades as a critical upgrade to one of crypto’s most crucial networks looms large this month, setting the stage for volatility in the days and weeks to come.
Set to begin on Tuesday and to be completed by Sept. 20, “The Merge” is a long-awaited and hotly-anticipated sea change for the Ethereum blockchain network. Ether—the second-largest cryptocurrency after
—is the native token for Ethereum.
The Merge is set to fundamentally change how Ethereum works as it ditches the “proof-of-work” system that underpins the security and operations of Bitcoin in favor of a “proof-of-stake” system. The move will make Ether mining redundant, slashing the network’s carbon footprint, and reduce the supply of tokens in circulation.
Both changes are expected to boost prices. Most crypto traders are betting on it.
From June to August, Ether outperformed almost every top-ranking digital asset by “a long shot,” a sign of intense interest in the run-up to the Merge, according to Clara Medalie, research director at crypto data firm Kaiko. While gains have dissipated since an August selloff gripped stock and crypto markets—the two are correlated given their sensitivity to changes in investors’ willingness to take risks—Ether has still gained more than 50% since mid-July.
Bitcoin has been left in the dust. By almost any metric, investor attention now firmly favors its smaller peer.
None of the Bitcoin products covered in the latest monthly digital asset-management report from data firm CryptoCompare achieved gains in assets under management or volume in August. Instead, Ethereum-based products dominated growth. And for the first time since December, the
Grayscale Bitcoin Trust
lost its position as the most traded crypto trust product; the top spot went to the
This shift in investor interest—and fund flows, with the average weekly inflow for Ether products at a record high in August—is beginning to become evident in key measures of market sentiment and asset performance.
The Ether-Bitcoin ratio, which measures the performance of Ethereum’s token relative to the largest digital asset, surged at the fastest rate ever from June to July, according to Medalie. Moreover, the spread in 30-day volatility for Bitcoin and Ether has widened to its highest level in more than a year, which suggests a strong difference in market activity between the two assets, reflected in booming trade volumes, Medalie said.
“Derivatives markets have also played a central role in Ether market activity,” says Medalie. “Perpetual futures open interest denominated in Ether recently broke all time highs, suggesting traders are placing their bets ahead of the Merge.” Open interest refers to the total amount of open derivative contracts.
A supermajority of all digital asset trading takes place in the crypto derivatives market, where the likes of perpetual futures or “perps” reign supreme and play a key role in both wider market price discovery as well as hedging. In addition, leverage—borrowed money—is widely available to derivatives traders.
So, as more money pours into the Ether derivatives market, it is likely to exacerbate swings in prices as traders alter their bets and take new positions in the coming days as the success and popularity of the Merge becomes clearer.
“The number of futures positions [denominated in Ether] open at this time represents a staggering all-time high, acting as a massive leveraging force on the price action of Ether over the next few weeks,” said Conor Ryder, an analyst on Medalie’s Kaiko team, in a note.
And it isn’t just day traders or crypto fanatics taking part. The biggest holders of Ether, so-called whales, are also getting in on the action. The top whale addresses have been moving a significant amount of Ether to exchanges, according to analysts at crypto exchange Bitfinex, with holdings on non-exchange addresses down by 11% over the past three months. Moving crypto off a private wallet and onto an exchange is a key precursor to trading.
So where does sentiment stand now, less than a week before the Merge is set to start?
Perhaps the best indicator is in the Ether options market, according to analysis from Kaiko, which currently shows what could be “the most obvious case of risk hedging that crypto options markets have seen.”
The market for Ether options expiring before the Merge is almost evenly split between calls—bets that prices will rise—and puts, which are bets that prices will fall. But it all changes for options that expire after the Merge, with 79% of all options expiring after the network upgrade being calls. This is a bullish sign.
“Investors seem bullish on the long-term future of Ethereum, as evidenced by the options markets, but in the short term remain anxious at the possibility of a self-inflicted crisis,” noted Kaiko’s Ryder, citing a buildup of short positions in Ether futures, which, like put options, likely denote traders hedging their bets.
“The Merge is one of the only events in crypto as of late that hasn’t been macro driven,” said Ryder. “It will be interesting to see if it sparks a breakout towards a lower correlation with the stock market, for better or for worse.”
Write to Jack Denton at firstname.lastname@example.org