The dramatic March 12 price crash in cryptocurrency markets showed that the underlying market structure of bitcoin and ethereum is broken and needs fixing, says Kyle Samani, our guest on the latest New Money Review podcast.
Samani is co-founder and managing partner at Multicoin Capital, an investment firm based in Austin Texas, with over $100m in assets under management.
During the podcast, Samani talks about the events of March 12, which saw a collapse in bitcoin’s price from $7,800 to $3,700, with similar falls seen in ethereum and other crypto assets.
Bitcoin and ethereum have since recovered most of those losses.
According to Samani, excessive leverage, stale price feeds and network congestion all helped contribute to the scale of the March 12 downdraft.
The introduction of a prime brokerage system across cryptocurrency markets, together with improved liquidation engines at trading venues offering leverage, could help reduce the chances of a similar episode happening again in the near term, says Samani.
However, he predicts, the unregulated nature of cryptocurrencies and the limited incentives for crypto exchanges to collaborate mean a repeat event cannot be ruled out in future.
Here are some key quotes from the interview.
What happened on March 12
“A liquidation of collateral caused the second leg down [in crypto prices] on March 12. During that second leg, the market structure really fell apart.”
“BitMex’s matching engine and liquidations engine started to get overloaded. They could not process all their trades and at one point they had $200m in outstanding bitcoin liquidations and only $20m left on the order book.”
“As ethereum dipped to $88 on March 12, the oracles that update the prices of ethereum and the maker (MKR) token stopped responding. A lot of weird auction mechanics followed.”
Leverage and unregulated derivatives exchanges
“The primary product that crypto traders use to get leverage is the perpetual swap contracts that BitMex popularised.”
“I’m not sure the high levels of leverage on some crypto exchanges are a problem. Crypto is fundamentally about not censoring and allowing freedom of expression. Exchanges are in the business of serving their customers. As they are mostly unregulated, it’s hard to see why they wouldn’t offer that kind of leverage.”
Prime brokerage and liquidation engines
“I’m optimistic we’ll see some kind of prime brokerage system in the cryptocurrency markets by the end of this year.”
“A better question is: can we design better engines to deal with large-scale liquidations? For me, the answer is definitively yes.”
The limitations of public blockchains
“Objectively, bitcoin’s fee market is broken.”
“You cannot build a global financial system on top of a blockchain—ethereum—that supports only 15 transactions per second and updates its state every 15 seconds.”
Improving network throughput in bitcoin
“The challenge with bitcoin’s Lightning network is that you have to collateralise bilateral channels between parties. On days like March 12, there wasn’t a lot of bilateral flow. All the capital was moving in one direction. Lightning can make the bitcoin network 10-20 percent better, but not ten times better.”
“Theoretically, sidechains can solve the [congestion] problem, but today they don’t exist in any meaningful way. The reason is that the exchanges around the world do not trust each other. It’s easy to see, for example, how unregulated exchanges might not pay out to regulated exchanges, and the regulated exchanges would have no recourse.”
Bitcoin will fail
“I think bitcoin is going to fail in the long run, meaning five-plus years. I don’t see how you can build a global financial system on top of these payment rails. It just doesn’t work.”
Short term positives for crypto prices
“This move down wiped out all the leverage in the system, which is a healthy thing. In the medium-to-long term I’m optimistic we’ll have the introduction of prime brokerage and clearing houses in the crypto markets, and that we’ll develop better scaling technologies for these systems.”
“Everyone can see that modern monetary theory is basically coming into effect. Although there are lots of deflationary pressures in the short term, people should rightly be concerned about inflation in the long term, both in the US and around the world.”
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