Funding Mean Reversions 2018

One of the most powerful and simple trading strategies is mean reversion. The XBTUSD swap features a funding rate that is exchanged between longs and shorts every 8 hours. The rate is calculated based the observed premium or discount of the swap over the spot index from the previous 8 hours. The lag between observation, announcement, and payment of funding gives this rate predictive power.

The intent of the funding rate is to entice traders to take the counter-trend position. If the market is falling, those trading with the trend will pay funding (shorts). If the market is rising, those trading with the trend will pay funding (longs). The trend is your friend until it ain’t. Anecdotally traders notice that the funding is elevated in absolute terms directly preceding a turn in the market’s direction.

Last September I presented a simple mean reversion funding strategy. If funding is high in positive terms, short XBTUSD right before funding is charged. Receive the funding payment, then cover the short position 8 hours later. If the funding is high in negative terms, go long XBTUSD right before funding is charged. Receive the funding payment, then close the long position 8 hours later. Depending on your criteria for when you put on this trade, there is a historically positive profit.

Armed with slightly longer than one year’s worth of data (March 2017 to April 2018), I have calculated the historical returns for this strategy. The trading triggers happen at one and two standard deviations away from the mean on the positive and negative side. The below are the results:

Sigma – This is the number of standard deviations away from the mean.

Count – For negative funding, this is the number of observations where the funding rate is below or above the Sigma for negative and positive funding rates respectively.

% Passes – This is the percentage of observations in the Count sample set where if the Sigma is negative, the next log 8-hour return is positive; or if the Sigma is positive, the next log 8-hour return is negative.

Cumulative Funding – This is the total amount of funding received from the observations in the Count sample set. If the Sigma is negative you will be going long XBTUSD and receiving funding. Therefore, even though the Cumulative Funding is listed as negative, you will receive this as income.

Cumulative XBTUSD Return – This is the sum of the next log 8-hour return of observations in the Count sample set.

Cumulative Return – This is how much you will earn from this mean reversion strategy. That is the funding income net of the return from the XBTUSD trades.

% of Total Observations – [Count / Total Number of Observations]

The most profitable range in this simplistic study is between the one and two Sigma absolute ranges. That fundamentally makes sense. If the funding is at the maximum, the counter-trend trade will very likely blow up in your face as the trend continues. Bitcoin, as readers know, is a very emotional market. The highs go higher and lows lower.

As the funding moderates during an extended rally or dump, that is when the tide is most likely to change. And that is when placing a counter-trend trade which receives the funding and direction change is the most profitable.

The more sophisticated statisticians amongst us can concoct much more advanced and nuanced mean reversion strategies centred around the XBTUSD funding rate. The data for the analysis I conducted are all freely available via our public API. This study is yet another proof that plenty of juice remains in the Bitcoin market for cool-headed analytical traders.

The Crypto Hangover

After a December to remember, crypto took a rough ride in the paddy wagon called the markets. The volatility was glorious, but for many, the gyrations negatively impacted their PNL. Bloodied traders, hedge funds, and ICO issuers litter the information highway. The El Dorado of uncorrelated returns still entices many to continue their journey in this new and exciting industry.

2, But No 20

Every day my LinkedIn inbox was filled with at least one new person announcing they were opening a crypto hedge fund. Various media outlets reported that by the end of Q1, a few hundred registered crypto hedge funds existed.

The vast majority of these funds are long only. Meaning these fund managers are overpaid beta chasers. Nothing wrong with the beta, but when you fool yourself into thinking you produce alpha, disastrous results ensue.

The investors who gladly handed over thousands and sometimes millions of USD, now stare at scarlet numbers that would make Hester Prynne proud. As I check in with some of my hedge fund manager friends, the fundraising process is going slower than expected.

The second class of slightly more sophisticated fund managers expected to arbitrage their way into Steven Cohen’s league. These managers proved more successful; however, some learned that your risk management in the crypto markets better be airtight or you will get REKT. All manner of bad luck greeted their lackluster returns. The inability to manage margin requirements on spread trades is one sure way to destroy a spread trade.

All in all, many newly minted John Paulson wannabe’s learned that it wasn’t so easy to trade crypto. The markets were volatile, seemingly random, and did not “behave” as they should or had.

ICO, A Dream Deferred

Every tech team now needs an ICO strategy. If the un-washed public will hand you hundreds of thousands of Ether on nothing more than a slick website and a plausible whitepaper you have to take their un-dilutive money. The flood of ICOs continues unabated, most of the 2017 vintage deals now trade below their ICO price.

I firmly believe that the ICO is a revolutionary way to fund technology projects. And the ICO should allow anyone with an internet connection and a few Satoshi or Ether to participate in the success of a project. However, the ICO has morphed into a private-placement orgy.

The ICO deals have gotten bigger, which necessitated the creation of the Sale of Future Tokens (SAFT) monstrosity. Teams bypass the small individual investors who used to participate in public ICO issuances for private deals conducted through SAFTs. Telegram has raised over $2 billion via SAFTs issued to professional investors. Good on them, but we should not consider that a real ICO.

Traditional VC investors love the SAFT because it closely resembles the traditional Series Alphabet soup. The SAFT achieves the liquidity event very quickly, meaning they can dump their paper on retail investors in the secondary market. However, there is just too much token toilet paper for the market to absorb. The ICO market slumped and took its god Ether with it.

Many newly minted token investors will find that without the support of retail, they are just passing a hot potato along Sand Hill Rd. Unfortunately for their bonuses, these hot potatoes are marked to market almost immediately and could end up costing them percentage points of returns.

This is not an “ICOs are dead” market call, but rather for ICOs to regain their former glory, they need to go back to basics. The teams that can say no to SAFT, and actually launch a fair and widely distributed public token sale, will revive the market. There are still projects that will do extremely well, but most of these tokens are and always will be dog turd.

Trading All Markets

The financial media loves crypto; there’s pathos and a cast of very interesting characters (I’m loving Brock Pierce’s hats). Readers searching for the next get rich quick investment devour any and all crypto coverage. PSA: if you need to read Bloomberg to figure out what happened in crypto, don’t quit your non-crypto day job.

There are any number of reasons why the market plunged from $20k to $6k in Q1. US tax-related selling, regulatory FUD, the ICO slump, weak hands capitulating, are all plausible reasons. These combined with the simple fact that an asset that goes up 20x in one year is certainly due for a meaningful correction.

No financial reporter will accept the simple reason that nothing goes up or down in a straight line. There must always be a reason, and they print all manners of gobbledygook if it sounds plausible to their editor.

The best crypto traders can trade both bull and bear, and furthermore both trending and choppy markets. However, I have encountered very few of these specimens. Most successful traders learn their style and if the current market structure doesn’t fit, they take a break.

The market is in chop mode. After $10,000 thunderously fell, the market traded in a $6k to $10k range. The beauty of Bitcoin is that the range is very large, and moves sudden. For disciplined traders, this chop is a gold mine.

For those who thought merely sitting in a Telegram chat room, or reading /r/bitcoinmarkets was sufficient to generate mad gains, SFYL. What keeps traders coming back to the market is that hard work is actually rewarded. This is truly the only real free asset market globally. That should excite any student of the markets, and student one must be if you want to drive a Lambo and order trains of Dom P.

P.S. If you don’t know what a train is, order one at the club, and watch your heart skip a beat when presented with the bill.

Onward to The Elysian Fields

Before one departs for the Hamptons, French Riviera, or Bali, another quarter awaits. Q1 was the carnage, Q2 will be the consolidation.

The regulators spooked us, the drops nuked us; but after all of that $5,000 was not breached. Bitcoin is still here, the markets are still volatile, and more people than ever before know what a cryptocurrency, digital token, and or ICO is. That is a net positive.

Many exchanges now have more registered users than the stock exchange in their domicile. The demand to trade these markets surpasses the capacity of exchanges. Crypto is not going anywhere, and those who are completely comfortable in the digital arena will continue to prefer crypto investments to equities and fixed income.

I don’t know where the price will be in the next three months, but my spidey sense tells me a sentiment shift is occurring. The next test will be $10,000. Can we hold, and for how long? Then the journey back to $20,000 can continue.

New Ethereum Miner Could be a Game Changer


We look at Bitmain’s new Ethereum miner and notice that it may be less energy efficient than one might expect for an ASIC. We explore the possibility that this miner contains a new more advanced form of technology, which is less efficient than ASICs, but potentially partially immune to PoW algorithm changes. We then conclude that whether this particular Ethereum chip is capable of this or not, this type of technology may eventually end the era of anti-ASIC PoW changes designed to improve decentralisation, such that crypto-coin communities may have to accept the inevitability of ASICs.


Bitmain have recently launched a new Ethereum miner, widely believed to be an ASIC, and it is expected to ship in late July 2018. However, many in the Ethereum community oppose ASICs and prefer GPU mining, since GPU companies are primarily concerned with gaming rather than crypto-coins, which should mean that the hardware is distributed more widely and fairly, improving decentralisation. Therefore a risk to Bitmain could be that the Ethereum community decide to hardfork to change the PoW algorithm, which could devalue the Bitmain machines and result in a large wasted investment.

In this report, we speculate that Bitmain may already be one step ahead of the Ethereum community. Bitmain may have already learnt a lesson with Monero, two coins which recently conducted PoW changes, potentially resulting in large devaluations of Bitmain’s ASIC chips. Developing a custom chip requires a considerable financial investment and therefore we think Bitmain may have taken some countermeasures to avoid another loss. Bitmain could have designed a new type of mining chip, less efficient that ASICs, but immune to PoW changes. This could make an Ethereum hardfork PoW change mostly pointless.

The recent Monero anti-ASIC PoW change

At the start of April 2018 the Monero community decided to hardfork and change the PoW algorithm, in an attempt to “brick” ASICs and make Monero more GPU-friendly. Due to sharp increases in hashrate, illustrated by Figure 1 and 2 below, the Monero community believed that ASIC manufacturers had developed Monero ASICs, in secret, and were mining the coin.

As Figure 2 shows below, the rolling 90-day hashrate growth rate reached c. 300% in the early part of 2018 (based on 7-day rolling averages). Even after factoring in the sharp increase in value of the Monero coin, this is an extraordinary growth rate. After Monero developers announced plans for a hardfork, Bitmain began to sell Monero ASICs on their website, indicating that they could indeed have been mining in secret. After the PoW change, as Figure 1 shows, the Monero hashrate dropped off significantly.

After the hardfork, the Monero chain split into two, with the original rules coin being called Monero Original (XMO). Although this coin had a lower value than Monero, it had a higher hashrate, since there was little else for the Monero ASICs to mine. There was no replay protection implemented for the split, however Monero increased the ring signature limit, therefore one can split Monero and Monero Original by first initiating a transaction on the Monero Original chain with fewer ring signatures than are allowed on Monero (less than 7).

Figure 1 – Monero hashrate compared to Monero price

Source: Coinmarketcap, BitMEX Research


Figure 2 – Monero hashrate compared to Monero price – Rolling 90-day percentage growth of 7-day moving average

Source: Coinmarketcap, BitMEX Research

Note: In the 7 days following the PoW hardfork, the hashrate rolling average excludes the period prior to the hardfork

Bitmain’s new Ethash miner

As we mentioned above, Bitmain has recently launched a new Ethereum miner, which is expected to ship around late July 2018. Given the history with Monero and the fact that many in the Ethereum community, including those mining Ethereum at home on GPUs, are likely to be unhappy at a new Bitmain product, Bitmain may be concerned. One downside to the new miner could be increased miner centralization, but in addition to this, the product may also receive hostility from some in the Ethereum community due to their financial interests in the existing Ethereum miners, GPUs. Bitmain’s management is not stupid, and therefore in our view the company is likely to act with caution and may have taken measures to mitigate against some of these risks.

Figure 3 – Bitmain’s new Ethereum miner: the Antminer E3


  • Power consumption: 800W
  • Hashrate: 180MH/s

Source: Bitmain

The advertised specification of the product is disclosed above. As the table below illustrates, a back -of-the-envelope calculation could imply this new Ethereum miner is less efficient than one would expect if it was an ASIC, based on comparisons with the efficiency gain measured on some of the other ASICs related to other coins. For instance a Bitcoin ASIC is c. 521x more efficient than an FPGA, while the Monero ASIC is c. 88x more efficient than a GPU. In contrast the new Ethereum miner is only c. 1.4x more efficient than than a GPU. This could indicate that the new Ethereum miner is not an ASIC at all, but merely a new device more efficient than the existing GPU miners. However, we appreciate that the below table is a crude approximation which ignores many crucial variables and factors, such as the memory-intensive nature of the Ethereum mining algorithm. But although the calculation is inaccurate, the figures can still potentially illustrate a point:

Figure 4 – Approximate miner efficiency calculations

Miner Hash rate (GH/s) Power (W) Energy per hash (J/GH)
Bitcoin (SHA256)
CPU 0.0005 100 200,000
High end GPU 0.5 300 600
FPGA 0.8 40 50
High end ASIC 14,000 1,340 0.096
Efficiency gain 521x
Ethereum (Ethash)
High end GPU 0.032 200 6,250
Antminer E3 0.18 800 4,444
Efficiency gain 1.4x
Monero (CryptoNight)
High end GPU 0.0000001 200 2,000,000,000
ASIC 0.000022 500 22,700,000
Efficiency gain 88x

Source: BitMEX Research, Bitmain
Note: Figures are approximations

Mining chip types & Vector processors (VPs)

As Figure 5 below illustrates, when Bitcoin launched in 2009, mining was conducted using CPUs. However, the architectures of GPUs and FPGAs are more efficient at processing repetitive hash operations. Therefore the network shifted, first to GPUs and then to FGPAs. In 2013, ASICs designed for specific hash functions emerged. Compared to CPUs, GPUs and FPGAs, ASICs are far more efficient at running a particular algorithm, however excluding this, ASICs are far less efficient or actually totally useless.

Figure 5 – Crypto-coin chip type timeline

Source: BitMEX Research
Note: The inclusion of Vector Processors (VPs) towards the end of 2018 is speculative

It might be possible that Bitmain has developed a new type of chip, a Vector Processor. The architecture of this chip could be designed for PoW hash functions in general, but not for a specific hash function. These chips could then be more efficient than GPUs and FPGAs, but less efficient than ASICs. The advantage over ASICs is that they could be, in some respects, immune to PoW changes. It is possible that the new Ethereum miner falls into this category of chip, although this is mostly speculation on our part.

Figure 6 – The evolution of crypto-coin chip types

Chip type Central Processing Unit (CPU) Graphics Processing Unit (GPU) Vector processor (VP) Application Specific Integrated Circuit (ASIC)
Example crypto-coins Bitcoin (BTC) – 2009 to 2011 Bitcoin (BTC) – 2012 to 2013
Ethereum (ETH),
Monero (XMR)

Ethereum (ETH) – 2018 onwards

Bitcoin (BTC) – 2014 to present,
Monero Original (XMO)

Manufacturers Intel,
Bitmain Bitmain,
Canaan Creative,

TSMC, Samsung,
Global Foundries, SMIC

TSMC, Samsung,
Global Foundries, SMIC
Global Foundries
Primary use Computing Gaming Crypto-coin mining Crypto-coin mining
Immune to PoW change Yes Yes Potentially No

Higher efficiency


It is possible that Bitmain’s new Ethereum miner is tailored for Ethash, in that the components inside the miner such as the electric circuits, power control devices, memory and control modules could all be specifically calibrated for mining Ethereum. However the chip itself, which is the area that requires by far the most financial investment, could be more general and not specifically designed for Ethereum. Therefore if Ethereum conducts a PoW change, it could be possible to direct the chips into a new device as they leave the foundry or perhaps even recover the chips from the old device put them into a new Ethereum miner. Although again, at this point we are speculating.

Artificial Intelligence (AI) technology

At TSMC’s latest set of quarterly results on 19th April 2018, Co-CEO Mark Lie said the following:

[Bitmain] is doing a lot of things on blockchain technology, like AI. They are doing very well. We expect them to slowly move to the AI area.

Source: Q1 2018 earnings call

“AI” is a term with many meanings. Although at this point the situation is unclear, it is possible that any new Vector Processor chips could be what TSMC mean by AI technology. Since any such chip may be able to switch between hashing algorithms, at a stretch, one could argue this falls within the scope of AI. It remains to be seen if the chip is merely programmable, like modern GPUs, or if there is a trick up its sleeve that could give it an efficiency gain vs. GPUs in most cases. If present, this advanced technological capability is likely to be seen as a major achievement for Bitmain. Such technology may also be even more expensive to develop and more specialised than the technology in ASICs, which could make the decentralisation problem even worse.

Ethereum hashrate growth – No evidence of deployment of the new chips

Despite the above, we have not yet seen any strong indications of the deployment of the new chips on the Ethereum network. As Figures 7 and 8 below indicate, Ethereum’s hashrate appears, broadly speaking, to be following a normal trend given the price volatility.

Figure 7 – Ethereum hashrate compared to Ethereum price and NVidia GPU sales

Source: Bloomberg,, Coinmarketcap, Nvidia, BitMEX Research


Figure 8 – Ethereum hashrate compared to Ethereum price – Rolling 90-day percentage growth of 7-day moving average

Source: Bloomberg,, Coinmarketcap, BitMEX Research


When discussing the possibility that Bitmain’s new Ethereum miner isn’t an ASIC and that the new chip may be somewhat immune to PoW changes, Vitalik Buterin told us:

I have a very similar impression myself

Despite what we have said above, most of the content in this article should be considered guesswork. However, even if we are wrong about this particular chip, we still think it is reasonably likely that at some point in the future, Bitmain or another company, will develop a general-purpose hashing chip, which is more efficient than GPUs for almost all hashing algorithms. At this point the era of anti-ASIC PoW changes could be over, with crypto-coin communities having to make a choice between two potentially unfavourable outcomes:

  1. Allowing ASICs, or,
  2. Allowing general purpose hashing chips, where technologies and production capabilities could be even more concentrated.

Unless of course proof-of-stake systems prove robust enough.



Whilst many claims made in this note are cited, we do not guarantee accuracy. We welcome corrections.


A Note on Recent ETH Liquidations

At 02:22 UTC on April 15, 2018, the ETHBTC on Poloniex crashed approximately 18% from 0.063 to 0.052. The Poloniex price is used as 100% of the index price (.ETHXBT30M) for the ETHM18 contract.

Crypto trading is very risky and underlying prices are highly volatile. While this type of movement is unexpected and undesirable, the price on BitMEX accurately reflected the price on the underlying spot market throughout this crash and recovery. Due to BitMEX systems functioning as expected and according to specification, there will be no refunds of losses sustained due to liquidations.

Index stability is important to us. BitMEX will continue to evaluate if adjustments are needed to existing index compositions. The liquidity of crypto spot markets is constantly in flux and can change significantly over the lifetime of a quarterly contract. Poloniex hosts one of the most liquid ETHBTC markets (note, not ETHUSD) in the world, but this unexpected action has triggered an internal re-review.

The Index Price is used as the central calculation for marking BitMEX futures. This Mark Price is used for margin calculations, which trigger liquidations. More information is available here.

Complete guide to Proof of Stake – Ethereum’s latest proposal & Vitalik Buterin interview


In this piece we examine proof of stake (PoS) consensus systems.  We look at their theoretical advantages and weaknesses. We then analyse the specific details of some of the most prominent and novel PoS systems attempted thus far, where we learnt that some pure PoS systems becomes increasingly complex, to the point which they became unrealistic. We review the latest Ethereum proposal, which we think is a significant improvement compared to previous attempts and it could provide net security benefits for the Ethereum network. However, the system may still be reliant on proof of work (PoW), which is still used to produce the blocks and at this point it is not entirely clear to us if the PoS element of the process contributes to ensuring nodes converge on one chain.


Before diving into the specifics of Proof of Stake (PoS), it’s important to clarify what one is trying to achieve when building these consensus systems. Essentially one is trying to construct a data structure with the following properties:

  1. No one entity controls the content of the data (distributed storage and verification of the data is not sufficient);
  2. The database can move forward, (Casper terminology: “Liveness”); and crucially
  3. Participants agree on the content of the data i.e. nodes have a mechanism to decide between conflicting valid chains (Casper terminology: “Safety”)

PoW uses the most accumulated work rule to decide between competing valid chains (fork choice rule). This is not only an apparent solution to criteria three above, but the PoW mechanism also inherently solves the block production and block timing issue. While total accumulated work is the fork choice rule, a block producer is also required to include an element of PoW in each block, a stochastic process, and therefore the issue of who produces each block and when each block is produced, is also be addressed by PoW.

PoS is the general concept of a fork choice rule based on the most accumulated stake (i.e. the chain with the most coins backing, voting or betting on it). However, unlike PoW, this does not necessarily directly address the issue of who produces each block or when blocks are produced. Therefore these issues may need to be addressed by alternative mechanisms. PoW is also a solution to the coin distribution problem, something which may also require an alternative solution in PoS based systems.

Theoretical overview of PoS

The byzantine generals problem

The Byzantine generals problem illustrates some of the  main challenges involved when attempting to construct a data structure with the properties mentioned above. Essentially the issue is about timing and how to determine which updates to the ledger occurred first. Actually if one third or more of the actors are disruptive, the problem is provably unsolvable, from a mathematical standpoint, as Leslie Lamport proved in 1982.

It is shown that, using only oral messages, [reaching agreement] is solvable if and only if more than two-thirds of the generals are loyal; so a single traitor can confound two loyal generals

Source: The Byzantine Generals Problem (1982)

PoW can therefore be considered as an imperfect hack, which seems a reasonably strong Byzantine fault tolerant system, but certainly not a mathematically robust one. It is in this context, of imperfect systems, which one should analyse PoS alternatives, as like PoW, these systems will also have flaws.

In PoS there are two competing philosophies. One of which is derived from PoW. Coins based on this include Peercoin, Blackcoin and earlier iterations of Ethereum’s PoS proposals. The second philosophy, is based more on Lamport’s academic research from the 1980s and embraces the conclusion Lamport reached that a two-thirds majority is required to build a Byzantine fault tolerant system. Ethereum’s current iteration of the Casper proposal adopts this second approach.

Advantages of PoS

PoS is typically looked at in the context of PoW, as an alternative which solves or mitigates against negative externalities or problems inherent in PoW based systems:

More environmentally friendly

Perhaps the most widely cited advantage of PoS systems is the absence of the energy intensive process which PoW requires. If PoS based systems can achieve the same useful characteristics as PoW systems, environmental damage can be avoided. This is a significant positive for PoS, although as we discussed in our piece on Bitcoin’s energy consumption, the problem may be slightly overstated, due to the incentive to use lower cost or otherwise failed energy projects as a source of power, limiting environmental damage.

Stronger alignment of incentives

Another major problem with PoW based systems is that the interest of miners may not align with that of coin holders, for example miners could sell the coins they mine and then only care about the short term, not long term coin value. Another issue is that hashrate could be leased, with the lesee having little or no economic interest in the long term prospects of the system. PoS directly ties the consensus agents to an investment in the coin, theoretically aligning interests between investors and consensus agents.

Mining centralisation & ASICs

Another key advantage of PoS based systems is potentially improving decentralisation. PoW mining has a number of centralising forces which are not applicable to PoS:

  • ASIC production is expensive and centralised (In Bitcoin Bitmain has a high market share);
  • Chip foundries are expensive and centralised (TSMC, Intel, Samsung & SMIC are the only players with scale);
  • ASIC related technologies can potentially be patented;
  • There may be a limited number of cheap energy sources, with restricted access; and
  • Many aspects of mining can have economies of scale, such as maintenance costs and energy costs, resulting in centralisation.

General and economic weaknesses of PoS

An incomplete solution

As we alluded to above, Satoshi’s PoW systems appears to kill four birds with one stone:

    • Chain selection (the fork choice rule),
    • Coin distribution,
    • Who produces blocks, and
    • When blocks are produced.

PoS only appears to be a proposed solution to the chain selection problem, leaving the other problems open. Although these other issues could be less significant than the chain selection issue.

An “unfair” economic model

One of the most common criticisms of PoS systems is that they allocate new funds in proportion to the existing holdings. Therefore the “rich get richer” and it results in a few wealthy users holding a higher proportion of the wealth than the more egalitarian PoW alternative. If one invests in a PoS system at the start, you can maintain your share of the wealth, alternatively in a PoW system your wealth is diluted as new rewards are distributed to miners. Indeed, if rewards are allocated in proportion to the existing holdings, one could argue its not inflation at all and that the reward is economically equivalent to adding more zeros to the currency. Therefore one can even claim the reward system is pointless and does not provide an incentive at all. However this only applies if all users become PoS validators, while in reality some users will want to use the funds for other purposes.

Risk of a loss of funds

Another issue is that staking requires signing a message from a system connected to the internet. Therefore stakers are required to have a “hot wallet” which increases the risk that funds are exposed to theft from hackers. Although it may be possible to mitigate this downside by having a private key only entitled to stake for a short period of time, after which the balance reverts back to the owner. Although if there is a slashing rule (punishment for voting on two conflicting chains), a hacker could conduct action which destroys the funds even if this mitigation strategy is used. Another potential mitigation strategy could be the creation of specialist hardware for staking.

Technical & convergence weaknesses of PoS

Nothing at Stake

Core to the consensus problem is timing and the order of transactions. If two blocks are produced at the same time, PoW solves the problem by a random process, whichever block is built on top of first can take the lead and then miners are incentivised to build on the most work chain. PoW requires energy, a finite real world resource and therefore miners have to decide which chain to allocate this resource to.

In contrast this process in PoS based systems is not entirely clear. If two blocks are produced at the same time, each conflicting block can build up stake. Eventually one block may have more stake than the other, which could make it the winner. The problem here is that if stakers are allowed to change their mind to back the winner, such that the system converges on one chain, why would they not use their stake on multiple chains?

After-all stake is a resource inherent to the chain and not linked to the real world, therefore the same stake can be used on two conflicting chains. Herein lies the so called “Nothing at stake” problem, which we view as the most significant issue facing PoS.

The “Nothing at Stake” problem

The Nothing at Stake problem Stake does not add to the convergence of the system, since the same stake can be applied to multiple competing chains, which is a risk free way of stakers increasing their rewards. In contrast, in PoW based systems, energy is a real world finite resource and therefore the “same” work cannot be applied to multiple competing chains.
Defense 1 The issue can be avoided or mitigated against. The protocol can be adjusted such that if a staker uses the same stake on multiple chains, a third party can submit a proof of this to either chain, resulting in a punishment, such as the confiscation of the stake (slashing conditions). Alternatively instead of a punishment, the cheater could lose potential rewards or be excluded from the staker pool.
Response from PoS sceptic The above defence is inappropriate and punishes what may be legitimate or necessary behavior. For example if a staker receives a block first, while the majority receives an alternative block first, it may be legitimate for that staker to change their mind and switch to follow the majority. Indeed the process of changing your mind and switching to the majority to ensure the network converges is the point of the consensus system. If this behavior is punished, how does the system converge?

Either the economic value of the punishment is higher than the rewards for switching to follow the majority, or it isn’t. Therefore the nothing at stake problem means PoS systems can never make a contribution to system convergence and the idea is therefore fundamentally flawed.

Defence 2 The apparent dilemma above can potentially be  resolved in various ways. For instance:

  • Earlier proposals from Casper used multiple rounds of staking. Changing one’s mind in the early rounds can be legitimate and perhaps the punishment is small, while in later rounds the punishment for using the same stake in multiple competing chains increases, such that eventually users have a high degree of assurance over the finality of the system.
  • The most recent iteration of Casper aims to allow validators to change their minds, but only in “legitimate” scenarios and not when its “illegitimate”.
Response from PoS sceptic By adding multiple rounds or criteria in which validators can change their minds one is increasing the complexity of the system. This is merely adding layers of obfuscation to conceal the inherent weaknesses illustrated by the nothing at stake problem, without solving the fundamental issue.
Defence 3 No system is perfect, indeed it’s mathematically impossible to construct a perfect system and therefore the nothing at stake problem is not solved, however the measures identified above mitigate the problem, such that these theoretical issues are unlikely to apply in the real world.

The long range attack consensus problem

Another potential issue with PoS is the so called “long range attack” problem. This is the idea that attackers could, for instance, buy a private key which had a large token balance in the past and then generate an alternative history from that point, awarding oneself more and more rewards based on PoS validation. Due to the large amount of rewards given to the attacker, one could then generate a higher stake chain than the existing chain and a large multi year chain re-organisation could be performed.

The solution to this problem is checkpointing, which is the process of locking in a certain chain state once a certain stake threshold has been met, such that it can never be re-organised. Critics argue that this solution requires one to keep their node online at all times, since an offline node cannot checkpoint. Some claim that if one goes offline, the security model therefore degenerates to “ask a friend”, since one is dependent on asking others for their checkpoints. Although in the past the Bitcoin reference implementation included checkpoints, the purpose of these was to speed up the initial sync, although the impact of this could be said to result in an “ask a friend” security model.

However, in our view this is a matter of different priorities. If one wants each individual user to fully verify all the rules and the state of the system, then relying in these checkpoints is insufficient. Indeed, the Satoshi’s original vision appears to imply that the ability of nodes to be switched off and then verify what happened when was was gone is potentially important:

Nodes can leave and rejoin the network at will, accepting the proof-of-work chain as proof of what happened while they were gone

Source: Bitcoin Whitepaper

Although the ecosystem is expanding, many businesses and exchanges operate 24×7 and are therefore required to keep a node running all the time, and can therefore do checkpointing. There are strong incentives preventing them from allowing a large chain re-organisation. To many, this is sufficient security and the risks posed by the long range attack problem are therefore irrelevant or too theoretical.

Stake grinding

In a pure PoS system, stakers also need to produce blocks. These systems have often worked by selecting a sequence of authorised block producers randomly from a pool, where the probability is proportional to the stake. The issue here is a source of randomness is required inside the consensus system. If the blocks themselves are used for generating the entropy, stakers could try to manipulate the content in blocks in order to allocate themselves future blocks. Stakers may then need more and more computing power to try more and more alternative blocks, until they are allocated a future block. This then essentially results in a PoW system.

In our view, the stake grinding problem is less of a fundamental problem with PoS, when compared to significant issues like the nothing at stake problem. All that is required to solve this problem is a source of entropy in the network and perhaps an Ethereum smart contract like the RanDAO, in which anyone can participate, can solve this problem.


Case Studies – Peercoin & Ethereum’s Casper

1 – Peercoin – 2012


Peercoin is a hybrid PoW and PoS system, built on the idea of coin age. The fork choice rules is the blockchain with highest total consumed coin age.

Coin age is simply defined as currency amount times holding period. In a simple to understand example, if Bob received 10 coins from Alice and held it for 90 days, we say that Bob has accumulated 900 coin-days of coin age

Source: Peercoin Whitepaper

In Peercoin, some blocks were produced purely using PoW, whilst other blocks were produced using PoW where the difficulty adjusts based on the coin age destroyed by the miner in the transaction (the coinstake transaction as opposed to a coinbase transaction). “For example, if Bob has a wallet-output which accumulated 100 coin-years and expects it to generate a [PoS block] in 2 days, then Alice can roughly expect her 200 coin-year wallet-output to generate a [PoS block] in 1 day.


Weakness Summary
Nothing at Stake The protocol aims to prevent miners using the same coins in a coinstake transaction on multiple chains by ignoring the second conflicting chain. However this is not sufficient and can result in nodes diverging, if they receive the conflicting blocks in a different order.
Block production Solved by using PoW to produce the blocks
Long range attack This was a critical vulnerability for Peercoin, an attacker can simply save up coin age by not spending their coins and then launch a re-organisation attack.

This was solved by centrally broadcasting checkpoints several times a day. Peercoin was therefore a centralised system.

Stake grinding This may not have been an issue, since there was no selection from a validator pool as PoW was always required and coin stake altered the PoW target.


At the time Peercoin was an interesting early novel approach, however the proposal resulted in a centralised system, not able to match the properties of PoW.

2 – Ethereum – Caper full PoS system – 2015


This is a full PoS proposal, based on “consensus by bet” methodology.

  • Blocks are produced from a pool of block producers, a random number generator is used to select whose turn it is to produce a block and then the producer is given a time window in which they can produce a valid block.
  • There is a set of bonded validators, one must be in the set to make or take bets on blocks.
  • Validators can then make or take bets on block propositions, providing a probability each time, representing the return betters can make.
  • After several rounds of betting, as the probability approaches 1 or 99%, the block is considered final.

Source: Ethereum Blog

Betting strategy

According to the Ethereum blog, betting should occur using the following strategies by default:

  • If the block is not yet present, but the current time is still very close to the time that the block should have been published, bet 0.5.
  • If the block is not yet present, but a long time has already passed since the block should have been published, bet 0.3.
  • If the block is present, and it arrived on time, bet 0.7.
  • If the block is present, but it arrived either far too early or far too late, bet 0.3.
  • Some randomness is added in order to help prevent “stuck” scenarios, but the basic principle remains the same.

The default betting strategy had a formula (given below), to push the probability away from 0.5, such that the chain would move forward, with the probability expecting to either approach zero or one.

Let e(x) be a function that makes x more “extreme”, ie. pushes the value away from 0.5 and toward 1. A simple example is the piecewise function e(x) = 0.5 + x / 2 if x > 0.5 else x / 2

If a validator bets when the probability is 99%, the return is very small (a 1% return used as a measure from which the reward is calculated), in contrast a winning bet placed placed with odds of 0.5, represents a return of 100%, which results in a higher return from the rewards pool.

The fork choice rule then is the sum of all the weighted probabilities, which have crossed a certain threshold, say 0.99. For instance a chain of five blocks, each with a probability of 1 will represent a score of 5. Any validator who changes their mind after the 0.99 threshold has been crossed, can be punished (slashed) for staking on multiple chains. While changing your mind before the threshold is considered legitimate and there is no punishment in that scenario.


In our view, this proposal is highly complex, which we consider as the main downside.

Weakness Summary
Nothing at Stake The protocol aims to prevent miners using the same coins to bet on multiple chains by using a punishment mechanism, in which validators would lose their deposit. In our view, this could harm the convergence of the system, although betting formula may move the probability away from 0.5, which is designed to help mitigate the issue.
Block production The RanDAO contract could be used to provide entropy to select the block producer. However, this only provides a time window in which blocks could be produced, it is possible there is a lack of consensus over whether the block was produced within the time window or not, after which the betting process is supposed to resolve the dispute.
Long range attack The nodes checkpoint blocks once a certain probability threshold has been reached. The long range attack problem remains for periods in which nodes are switched off.
Stake grinding The RanDAO contract may solve the stake grinding issue


The proposal was not adopted by Ethereum. In our view the proposal was never complete, as some parameters and aspects of the system lacked a specification. Although the consensus by bet approach was interesting, it seemed too complex and there were too many uncertainties. This approach illustrates the difficulties involved when constructing full PoS systems and how when one tries to address the weaknesses, it just results in more and more complexity, until the system becomes unfeasible.

3 – Ethereum – Latest version of Casper – The hybrid PoW/PoS System – 2018


The current Casper proposal represents a change in philosophy or a pivot, compared to some of the earlier PoS systems. It returns to the academic work of Lamport in the 1980s and Lamport’s theorem that these systems work if and only if two-thirds of agents in the system are honest. Therefore the current version of Casper is less ambitious than before. PoS is no longer used to produce blocks or decide on the timing of blocks, which is still done by PoW miners. The PoS system is used as a checkpointing process. In our view, this proposal is superior to the more complex earlier iterations of Casper.

The system works as follows:

  • The PoS system is only used every 100 blocks, to provide an extra layer of assurance over PoW, as a checkpointing system.
  • Participants in the PoS process send their Ether into a “validator pool”.
  • Every 100 blocks validators put their stake behind a checkpoint block, whilst also referencing a previous checkpoint block. If two-thirds of the funds in the validator pool support a proposal, the block is considered “justified”.
  • Once a block is justified, it can be used as a reference for future votes. Once two-thirds of the stake use a justified block as a reference, this justified block is considered finalised and this finality takes precedence over PoW.
  • Validators votes are only valid 12 confirmations after the last checkpoint block.
  • If the two thirds threshold is not met, the chain continues to progress based entirely on PoW.
  • If stakers do any of the following banned behaviors, in return for a small 4% fee, a third party can submit a proof of this, such that the cheater loses their entire stake/deposit (slashing):
    1. Votes for multiple conflicting blocks at the same height.
    2. Votes for multiple conflicting blocks at different heights, but using conflicting reference blocks, unless the new reference block has more height.

The Ethereum reward structure will be adjusted, such that PoS validators also receive a share of the rewards, in addition to the PoW miners. As far as we can tell, the details of this new allocation have not been decided yet.


The latest iteration of Casper is a significant improvement from earlier versions, in our view, primarily because of lower levels of complexity and greater reliance on PoW mining.

In theory, there are only three problems with the new proposal:

  1. Over one third of the stakers refusing to participate – in which case we are just back to a PoW based system
  2. Stakers changing their mind after finality such that more than two thirds supports an alternative chain – the long range attack problem
  3. Stakers reaching two-thirds majority support for a lower PoW chain than the current leading PoW chain, a new way of causing a re-organisation. We view this as the most significant downside of this proposal.

Core to the assumption behind this system is that its PoW which drives the chain forwards and that the PoS system only comes into play, once the PoW miners have decided on a chain, PoS votes are not even valid before 12 miner confirmations. Indeed, if the two thirds majority cannot be achieved then the chain continues on a PoW basis.

Therefore, we conclude, that the core characteristic of this latest Casper proposal is that the PoW happens first, and only after this does PoS potentially provide an extra assurance against a chain re-organisation, orchestrated deliberately by a hostile PoW miners. PoW therefore still provides computational convergence, with the PoS mechanism defending against the threat of a human threat of a miner re-organisation. Therefore although PoS provides this safety, as point three above indicates, it also provides extra risk, therefore its not clear if there is a net benefit.

Weakness Summary
Nothing at Stake Validators can vote on multiple chains, but not at the same height. This is designed to allow validators to change their mind, but only for “legitimate” reasons.

For the hybrid version of the model, the convergence issue may be solved by relying on PoW mining.

Block production PoW miners produce blocks and therefore there is no issue related to selecting the block producer.
Long range attack Once two-thirds of the stake in the validator pool has used a block as a reference for voting, nodes finalize the block and there cannot be a re-organisation. The long range attack problem remains for periods in which nodes are switched off.
Stake grinding PoW miners produce blocks and therefore there is no stake grinding issue.

Other potential unresolved issues

In the event of a contentious hardfork and chainsplit, if the new chain alters the format of the validator checkpoint votes, two-thirds of the validators could conduct destructive re-organisations on the original chain, while avoiding punishment (slashing) due to the new voting format. Validators could therefore destroy the original chain, while still moving forward on a new chain of their choice. The system could therefore be less resilient to being shut down.

Exclusive BitMEX Research Interview with Vitalik Buterin on the latest Casper proposal

Question 1 – Even though the PoS system may provide more assurance than before, prior to the 34% voting threshold being reached, re-organisation risk may be higher, since a re-organisation can occur in more ways, both via PoS and via PoW. Are you concerned about the negatives of this?

I would say no. There are plenty of reasons to believe that it should not negatively impact stability. The pre-finalization chain scoring rule is “highest finalized epoch + total difficulty * epsilon”. There is a paper here that points out that any “monotonic” chain scoring rule is a Nash equilibrium; our scoring rule is clearly monotonic so it’s a Nash equilibrium. Both miners and validators use the chain scoring rule, so miners and validators would both naturally help the chain grow, not try to revert it. Casper FFG was deliberately designed in this way, to “play nice” both with “chain-based” intuitions of consensus as well as BFT-theoretic concepts of finality.


The only way in which “re-organisation risk may be higher” is either:


  • If validators are more likely than miners to be majority-dishonest
  • If the Casper-specific code has bugs

We accept that if either of these are true then Casper FFG can add risks.

Question 2 – How do you expect users and exchanges to behave? Should exchanges modify their behavior before crediting deposits, for example 2 confirmations plus 34% of validator votes?

If I ran an exchange I would do something like “wait 12 confirmations for deposits up to $10k, and finality for anything higher”

Question 3 – Will there be an overall confirmation score metric, combining both the impact of PoW and PoS, which exchanges can use?

I suppose it’s possible to create one. Here are a few distinct stages of confirmation that I can think of:

  • A transaction has been included into a block, which is the head
    • which is the Nth ancestor of the head
    • which is an ancestor of a checkpoint C which is an ancestor of the head. Validators have started voting on C.
  • Validators have justified C.
  • A child of C, C’, exists, and validators have started voting on C’ to finalize C
  • The child of C’ has >1/3 votes. At this point, at least one validator needs to actually be slashed for the transaction to be revertedC is finalized.


This latest PoS proposal is the best proposal so far, in our view. We think it may be adopted by Ethereum and it could make a net positive contribution to the security of the system. However, the system remains reliant on PoW mining, at least at the interim stage. PoW is relied on to resolve any Byzantine faults first, before the PoS process occurs. Therefore the system relies on PoW for both block production and for the crucial property of ensuring the system converges on one chain. Although PoS mining may mitigate some risks (hostile PoW miners), it is unclear if it makes a net contribution to convergence or security. Critics of PoS could therefore argue that any rewards redistributed from PoW miners to stakers unnecessarily dilutes system convergence and security.

Although we think the current proposal could work, the nothing at stake problem could still be a significant challenge. The jury is still out on whether this new mechanism solves this problem. Therefore despite the plan to use this proposal as a stepping stone, as part of a gradual shift towards a full PoS system, this could be more difficult to achieve than some in the Ethereum community think.



Whilst many claims made in this note are cited, we do not guarantee accuracy. We welcome corrections.


Changes to altcoin futures contracts

On 30 March 2018, we are making the following changes to altcoin products:

  • The 0.25% settlement fee will be removed on futures products. We hope that will encourage greater liquidity by removing barriers to entry and exit.
  • We will be removing the DASH, ETC, NEO, XMR, XLM, and ZEC pairs after they expire, for the time being. This is to free up trading-engine capacity on our more popular contracts. After we make certain optimisations, we may re-list these.
  • The ADA, BCH, ETH, LTC, and XRP contracts will be re-listed for another quarterly today:
    • BitMEX Cardano / Bitcoin 29 June 2018 futures contract (ADAM18)
    • BitMEX Bitcoin Cash / Bitcoin 29 June 2018 futures contract (BCHM18)
    • BitMEX Ether / Bitcoin 29 June 2018 futures contract (ETHM18)
    • BitMEX Litecoin / Bitcoin 29 June 2018 futures contract (LTCM18)
    • BitMEX Ripple / Bitcoin 29 June 2018 futures contract (XRPM18)

Bitcoin price correlation: Record high against the S&P 500

Abstract: We look at the price correlation between Bitcoin and some traditional financial assets since 2012 and notice that the correlation with stocks in the last few months has reached record high levels, although it remains reasonably low in absolute terms. We conclude that a crypto-coin investment thesis of a “new non-correlated asset class” may therefore have some merit, although correlations may increase if the ecosystem expands. Due to the current correlation with stocks, Bitcoin may no longer offer downside protection in the event of a financial crisis, which some people may expect.


We calculated the 180-day rolling daily percentage price-change correlation between Bitcoin and a variety of traditional financial assets since 2012. As the chart below demonstrates, the correlation never really significantly escaped the -0.2 to +0.2 range, which is a reasonably low level.

Bitcoin price correlation versus various traditional assets – daily price percentage change over a rolling 180-day period. (Source: BitMEX Research, Bloomberg, Bitstamp)

Bitcoin vs. the S&P 500 and gold

Focusing on just the S&P 500 index and gold, it appears as if Bitcoin has experienced several periods of correlation.

  • During the Bitcoin price rally in March 2013, which commentators at the time suggested was partially caused by the Cypriot financial crisis, the Bitcoin price correlation with gold increased and remained somewhat elevated until the January 2014 Bitcoin price crash.
  • During the 2016 Bitcoin price rally, a moderately strong gold-price correlation returned again and gold and Bitcoin both had a strong year. This indicates that the same underlying economic factors and political uncertainty (the economic slowdown in China, Brexit, and the election of President Trump) may have contributed to price movements of both assets during this period.
  • During the recent Bitcoin price rally, things appeared somewhat different, with the price correlation between Bitcoin and stocks reaching record levels (almost 0.25). In our view, Bitcoin appears to have obtained some “risk-on” characteristics in this rally. Increased levels of liquidity available to investors and the amount of enthusiasm for new technology, may be driving price movements in both stocks and Bitcoin, to some extent. Therefore Bitcoin may be less likely to provide protection in the event of a financial collapse or fall in equity markets, something traditionally considered one of Bitcoin’s potential strengths. In addition to this, the price correlation with gold recently became slightly negative.

Bitcoin price correlation between the S&P 500 index and gold – daily price percentage change over a rolling 180-day period. (Source: BitMEX Research, Bloomberg, Bitstamp)

Statistical significance

The R-squared between Bitcoin and other assets in the chart below is low, peaking at only 6.1% with the S&P 500 during the recent price rally. In addition to this, we have not been able to prove the statistical significance of any daily price-change correlation between Bitcoin and any traditional asset using any robust methodology. Scientifically speaking therefore, this article is speculative.

Bitcoin price R-Squared between the S&P 500 index and gold – daily price percentage change over a rolling 180-day period. (Source: BitMEX Research, Bloomberg, Bitstamp)

Recent price movements

Although it’s difficult to make any conclusions based on robust statistical methodology, due in part to the limited number of data points, a chart of the Bitcoin price versus the S&P 500 in the last few months shows a strong positive relationship, which is difficult to totally ignore.

Bitcoin price compared to the S&P 500 index. (Source: BitMEX Research, Bloomberg)

Indeed, as Bloomberg pointed out with the graph below, the peak of the Bitcoin price actually coincided with the peak forward earnings valuation ratio in the S&P 500. This comparison may be somewhat spurious, since the stock market actually peaked at the end of January (while Bitcoin peaked in December) and earnings estimates reset to higher levels for the year ending December 2018 at the end of 2017.

Bitcoin price compared to the S&P 500 index’s forward P/E ratio. (Source: Bloomberg)

Ethereum and Litecoin

We also looked at the rolling Bitcoin daily price-change correlation between Ethereum and Litecoin. The price correlation between these coins and Bitcoin is obviously far higher than for traditional assets and it is statistically significant. During the massive crypto-coin rally in 2017, the price correlation to Bitcoin fell dramatically to the 0.1 level, as altcoins traded against Bitcoin and moved more independently. After the price correction started in 2018, price correlations have began to climb as the coins seem to move together again.

  • Litecoin — The correlation normally tends to be high, at around the 0.5 level. The price correlation dipped to around 0.2 in 2015, when there was not much Litecoin price action.
  • Ethereum — After Ethereum launched, the system was reasonably small and exposed to some unique risks, such as uncertainty surrounding its launch and the model of giving funds to the founding team. Therefore its price correlation with Bitcoin started low before eventually reaching levels similar to Litecoin.

Bitcoin price correlation between Ethereum and Litecoin – daily price percentage change over a rolling 180-day period. (Source: BitMEX Research, Bloomberg, Bitstamp)


Crypto-coin proponents sometimes mention that crypto coins are a “new non-correlated asset class” that can provide a hedge for traditional portfolio managers. These traditional portfolio managers are then expected to allocate a weighting in their portfolios for crypto-coins, which may cause further price appreciation.

It appears that Bitcoin has been a reasonably non-correlated asset class throughout its history. During the recent rally to a valuation of hundreds of billions of dollars, however, correlations — and, crucially, correlations to risk-on assets — started to increase.

Although there is some merit to the hypothesis of crypto-coins not correlating with traditional assets, if crypto-coin prices remain elevated or increase further and become a significant part of the global financial system, higher correlation with traditional assets may become inevitable.

Whether crypto coins are a “new” asset class and whether this matters is another topic. It’s not clear if there is significant merit merely to being new; more importantly, perhaps, is if crypto-coins offer anything unique.


Share orders, positions, and P&L with Trollbox slash commands

Today, BitMEX launches an easy, verifiable way to share your positions, orders, and P&L with the Trollbox community: slash commands!

Just type / at the beginning of one of the following combinations to send an official view of your activity on BitMEX:

  1. /orders : Share all your open orders.
  2. /orders <symbol>: Share your open orders for a symbol.
  3. /position <symbol>: Share your positions for a symbol.
  4. /pnl <symbol> : Share your total Profit and Loss (PNL) for a symbol.
  5. /rpnl <symbol>: Share your Realised PNL for a symbol.
  6. /upnl <symbol>: Share your Unrealised PNL for a symbol.
  7. /help: Open a reference guide below the Trollbox.

In the above examples, symbol refers to the name of a contract, such as XBTUSD, XBTM18, and ETHH18.

Typing /orders with a symbol like XBTUSD will share all of your open XBTUSD orders in a blue box below your message:

Notice the BitMEX logo in the box? This is how you know the message was generated by the system, and was not a forgery by a user.

Slash commands are available now on all channels, and TestnetGive it a try today and let us know what you think!


Update: SegWit transaction capacity increase compared to Bitcoin Cash

Abstract: In September 2017, we wrote a piece on the SegWit capacity increase. Here, we provide an update on SegWit adoption with six more months of transaction data. We also compare the transaction throughput to that of Bitcoin Cash, an alternative capacity-increase mechanism.

SegWit vs. Bitcoin Cash

The SegWit upgrade to the Bitcoin protocol occurred in August 2017. After this, users had the option of upgrading their wallets and using SegWit, which provides the benefits of about 41% more scale (assuming no other users also upgrade).

Around the same time, Bitcoin Cash provided an alternative mechanism for increasing capacity, in which one also needs to upgrade to a new wallet and adopt a new transaction format to get the benefit of more transaction throughput, although a main difference between this and SegWit’s approach is that Bitcoin Cash resulted in a new coin.

The transaction volumes of Bitcoin Cash and the new SegWit Bitcoin transaction format have been reasonably similar. Since the launch of Bitcoin Cash, 6.1 million SegWit transactions have taken place, only 20.1% more than the cumulative number of Bitcoin Cash transactions. These figures are remarkably close — although supporters of the SegWit capacity-increase methodology could claim that Bitcoin Cash had a one-month head start and that the Bitcoin Cash chain has lower transaction fees so that a comparison is not appropriate. Adjusting for the one-month head start, SegWit has 31.5% more cumulative transaction volume than Bitcoin Cash, larger than 20.1% but still reasonably close. Of course, its possible that at some point either or both of these figures could be manipulated.

Although the data suggests that SegWit transaction have been adopted slightly faster than Bitcoin Cash, resulting in more transaction volume, Bitcoin Cash advocates could argue that the Bitcoin Cash token is more about a philosophy of larger capacity in the long term, rather than the speed of the actual increase in transaction volume in the short term. Therefore Bitcoin Cash supporters can still claim that Bitcoin Cash will eventually have more transaction volume than Bitcoin, once adoption of the coin increases.

Cumulative transaction volume since the launch of Bitcoin Cash. (Source: BitMEX Research, Bitcoin blockchain, Blockchair for Bitcoin Cash data)

As these charts indicate, there was a sharp spike in Bitcoin Cash transaction volume when it launched; in contrast the SegWit upgrade was more gradually adopted. This is likely to be related to the investment flows and excitement of the new Bitcoin Cash coin, which may have driven short term adoption, as some of the spikes in the chart illustrate. Three months after the launch of Bitcoin Cash, on 31 October 2017, SegWit transaction volume overtook Bitcoin Cash and has remained in the lead ever since.

Daily transaction volume. (Source: BitMEX Research, Bitcoin blockchain, Blockchair)

The chart below shows that the adoption of SegWit has continued to grow since August 2017, perhaps increasing in steps as large corporate entities switch to SegWit. Adoption currently hovers around 30% as a proportion of the number of transactions, although the adoption rate only measures around 22% as a proportion of block space, which is possibly a more important metric.

Percentage of transactions that use SegWit. (Source: BitMEX Research, Bitcoin blockchain, Blockchair)

SegWit has begun to meaningfully impact system-wide capacity, potentially reducing fees and benefitting even users who choose not to upgrade to the new transaction format. However, the transaction fee market is still immature and, in our view, transaction prices are likely to remain volatile going forward.


Adoption of both the new transaction format for SegWit and Bitcoin Cash has been reasonably slow. At the same time, as our earlier piece shows, adoption of new consensus rules can also be gradual. This illustrates why it may be important to construct network upgrades in the least disruptive way possible, perhaps an upgrade mechanism which is safe even if users and miners do not upgrade at all.


Whilst many claims made in this note are cited, we do not guarantee accuracy. We welcome corrections.

Tether: New financial data released by Puerto Rico

Abstract: Following our earlier research piece on Tether a few weeks ago, further financial information has just been released by Puerto Rico. The new data supports our speculation that Noble Bank could be Tether’s primary reserve bank and that the region may be a major cryptocurrency centre.

Over the weekend, the Commissioner of Financial Institutions of Puerto Rico released aggregate financial-system data for the calendar year ended 2017. Bank deposits in the International Financial Entities (IFE) category, which includes Noble Bank, were $3.3 billion, up 248% in the quarter ended December 2017. Total assets in the category were $3.8 billion, up 161% in the quarter. This extraordinary growth coincides with a large increase in value of cryptocurrency assets, which has likely resulted in large cash inflows into cryptocurrency-related banks.

Over the same period, the value of Tether in issue has increased by 215% to $1.4 billion. This new data supports the thesis in our recent piece on Tether, in which we speculated that Noble Bank is Tether’s primary reserve bank.

We have updated the chart below from the version in our earlier piece, with an initial data point for the end of 2017. It illustrates the sharp growth in bank deposits in the IFE category in Puerto Rico, coinciding with the recent cryptocurrency boom.

Puerto Rico’s IFE aggregate deposits versus the Tether balance in millions of USD. (Source: IFE Accounts, BitMEX Research, Coinmarketcap)

Cash as a percentage of total assets (an indication of full-reserve banking) also increased in the quarter, from 72.2% to 85.8%. This also indicates cryptocurrency or Tether-related activity, as we explained in the previous piece.

Puerto Rico’s IFE aggregate cash balance as a percentage of total assets. (Source: IFE Accounts, BitMEX Research)


Whilst many claims made in this note are cited, we do not guarantee accuracy. We welcome corrections.

The Volocaust and method actors

BTFD was the rallying cry of crypto traders throughout 2017. The beginning of 2018 will test even the most stalwart HODLers. When is the right time to back up the truck? It surely wasn’t at $15,000, $10,000, or $8,000.

One of my best friends, once a top-ranked bond salesman, describes himself as a first-rate method actor. When he showed up to work, he had the perfect coif, wrist watch, and tailored suit. Seeing him after he left all that behind, you would think he was a wannabe K-Pop star. When the play was over, he became himself again.

The actors in the financial-services theatre don their costumes to drape themselves in an air of respectability. The right accent, pedigree, and clothing allow them to convince the unwashed heathens that the financial products and advice they peddle is not snake oil.

I wore my costume too, although my performance was not as convincing. Every Friday at Deutsche Bank, we were allowed wear casual clothing. One Friday, while I was a first-year analyst, I decided to wear a pink polo shirt, acid-washed jeans, and yellow sneakers.

Later that afternoon, the head of Equities walked past my desk and saw me. He asked my boss, “Who the fuck is that?”, referring to me and my baller outfit. The next week, I learned that casual Fridays were cancelled for the whole office. Thank you, Arthur Hayes!

The firms employing these troops of actors still have an aversion to Bitcoin. They are hypocrites, and the latest volatility gyrations that REKT thousands of retail punters invested in products they sold is case in point.

A primer on leveraged and inverse ETFs

A traditional ETF is a product used to go long on a particular basket of assets. An example is SPY, the SPDR S&P 500 ETF. It gives holders exposure to the S&P 500 index by holding a basket of stocks.

One of the biggest reasons why ETFs are so successful in the US: investors can purchase them in their retirement accounts. Retirement accounts have various restrictions on the type of assets that may be purchased. Usually, these accounts do not allow investors to hold futures contracts or trade on margin.

Investors crave leverage and the ability to go short. Futures contracts are the most cost-effective way to gain this type of exposure. However, the minimum size of many contracts prohibits small investors from using them. Also, small investors cannot use them in their retirement portfolios.

To satiate this demand, ETF issuers began launching leveraged and inverse ETFs.

Let’s assume we launch an inverse ETF on the S&P 500 index (SPX). The purchaser of this ETF will profit if the index declines.

daily ETF performance = -1 * daily return SPX 

Say that on day 1:

SPX Close0 = $1,000
SPX Close1 = $500

Return = -50%

ETF performance = -1 * -50% = +50%

And on day 2:

SPX Close1 = $500
SPX Close2 = $1,000

Return = 100%

ETF performance = -1 * +100% = -100% (Bankrupt!)

This simple example illustrates that inverse ETFs are path dependent. In other words, holders take on convexity while holding this ETF. Unfortunately, they are short, not long.

Leveraged and inverse ETFs are ticking time bombs. If held long enough during a period of suitable volatility, there is a significant likelihood that holders will severely underperform their intended strategy.

In addition, the fund manager must constantly rehedge his portfolio at the end of each trading day. The more a manager trades, the more fees must be paid to investment banks and the exchange. These fees are passed on to the client.

The client is short gamma, underperforms the benchmark, and pays more in fees. Can you spot the sucker?

The Volocaust

Selling volatility has been the sure bet to riches for retail and institutional investors alike since 2009. The CBOE VIX futures market took off after the crisis, and enterprising ETF issuers began listing products to allow retail punters to participate in this esoteric corner of the financial markets.

Retail punters took to VIX ETFs like a Donald Trump to Propecia.

As volatility continued to collapse, exchange-traded notes (ETNs) and exchange-traded products (ETPs) that allowed retail investors to short VIX futures proliferated. Retail punters got a double whammy of goodness.

The first whammy: VIX futures contango. Because investors feared another 2008 market crash, they bid up call and put prices. This led to enhanced implied volatility, which meant VIX futures traded at a premium to spot. Because volatility continued to realise lower and lower, VIX futures sellers picked up that premium.

The second whammy: central banks, crushing all market volatility. At any hint of crisis, the printing press went spastic and punished shorts.

One of the most popular products was the VelocityShares Daily Inverse VIX Short-Term ETN (XIV, get it?) that Credit Suisse issued. XIV invests in the VIX short-term futures contracts, not the index itself. This is awesome when the market doesn’t move and the futures basis tends to zero, but if the term structure shifts dramatically higher, it will exacerbate the losses.

Things were going swell until the market dropped last week, and the VIX and its associated futures spiked. It went up so much that the net asset value (NAV) of the ETN declined by over 80% in one day. Remember, the ETN decreases in price if the VIX rises. There is a clause in the prospectus that allows the issuer to redeem the ETNs if the NAV drops by more than 80% in one trading session. Investors at that point get back what they can get back. Given that the short-term VIX futures basis spiked as well, these investors are pretty much guaranteed to receive a bagel.

Entire fortunes and accounts were destroyed overnight. Traders who saw steady profits as volatility ground lower were wiped out.

Bitcoin ain’t so volatile anymore

After witnessing a retail product that went from hero to zero in one trading session, how can any banker say with a straight face that crypto coins are too risky for retail investors? These same investment banks gladly structured toxic ETFs, ETNs, and ETPs that gutted the portfolios of those investors they claimed to care so much about.

Going long on Bitcoin could result in an investment worth nothing in the near or long-term future. But at least that is an investment with positive convexity. The maximum you can lose is what you put in, but the upside is infinity. Contrast that to any number of inverse ETFs. The maximum unlevered return is 100% and the maximum loss is also 100%. However, as I have shown, the path dependency of these products assures that you will underperform your benchmark in the long run.

If the banks that issue these carpet bombs also pooh-pooh Bitcoin, ignore them. The only reason why they don’t like crypto coins is that they have no way to profit from them. They don’t own the exchanges nor can they facilitate agency trading of these assets. A dollar invested into Bitcoin is a dollar not invested in the casino that they operate.

That negative attitude is changing fast. The “vampire squid” Goldman Sachs invested money in Circle, who just acquired Poloniex. It seems that crypto money isn’t that bad after all.

As compliance departments are browbeaten into allowing banks to trade crypto coins, the banks’ tone will shift. Suddenly, an allocation of crypto coins will be investment canon. Jamie Dimon and his ilk will flip-flop into crypto enthusiasts. But don’t hate on Jamie for dogging Bitcoin — he is just playing his part in the financial-markets theatre.

Bitcoin March/June calendar spread

The above chart shows the Bitcoin price and the annualised premium of the March (XBTH18) and June (XBTM18) Bitcoin/USD contract spread.

The calendar spread is calculated by the following function:

annualised premium = [(XBTM18 price - XBTH18 price) / Bitcoin spot] / 0.2493

0.2493 represents the annualized time value between the March and June expiry dates.

The calendar spread is a useful gauge of how bullish or bearish traders are in a forward starting-time period. In early February, Bitcoin lost close to 70% of its value measured against its December 2017 all-time high. The spread reached a low of 0.42% annualised during the same period.

Catching knives is deadly for most mortal traders. Some are able to bottom-tick the market, but they are few and far between. After rebounding close to 100% from the recent low of $6,000, the market has entered choppy waters.

Trading the chop is a skill in and of itself. The chop will take a healthy stack and make it look sickly before the next breakout happens. Therefore, using derivative spread trades with a view on the direction of the spot market is a better risk-adjusted way to express a view.

For those who believe we are in the midst of a full retrace back to $20,000, going long on the XBTM18/XBTH18 calendar spread is prudent. To go long, you must go long XBTM18 and simultaneously go short on XBTH18.

If the market indeed continues to push higher, XBTM18’s price will increase faster than that of XBTH18’s. That is because XBTM18 possesses more time value, so the interest-rate component will make up a significant percentage of its value relative to XBTH18.

This trade comes relatively cheap. Currently, the spread is trading at positive 3.15% annualised. Because the spread is positive, the trade has negative theta or time value. XBTH18 expires at the end of March. By the end of March, if XBTM18 doesn’t outperform, you will lose an outright 0.78%, making your daily theta 0.026%.

Historically, the quarterly contracts trade at a 30% to 40% annualised premium. If we assume the curve’s annualised premium stays constant, the calendar spread should trade at a similar premium. Therefore, in the upside scenario, we expect a 10-fold increase in the annualised calendar-spread premium.

The reason why you put this trade on rather than going naked long is that the market-to-market losses on this trade are capped at 0.78% unlevered. Imagine you bought Bitcoin at $10,000, then it crashed to $6,000. As a weak hand, you panic-sold the bottom. But the price quickly recovered back to $10,000, and even though your trade broke even over less than one month, you lost 40% because you could not mentally handle the mark to market.

With a calendar spread, you know from the outset your unlevered maximum loss. If you are uncomfortable with that loss a priori, you can refrain from putting on the trade.

For those who want to juice up the returns, add more leverage to both legs. However, be cognisant that BitMEX does not use portfolio margin — that is, gains in one contract will not offset your liquidation price on the other. You must monitor the liquidation price of the contract with an unrealised loss and continue to top up your account to avoid liquidation.