Deribit Suffers Loss – Remains Solvent

Deribit recently announced they have suffered losses due to liquidations triggered by margin calls. Essentially what happened was as the market prices changed, margin calls and forced liquidations were triggered, and the market did not have enough liquidity to fill all the orders in an orderly manner, so as positions were blown out, there was a big gap in fill prices to where theoretical prices might be. The beneficiaries were the market makers who let the market gap down, then filled margin liquidation orders at prices well below expected prices. The exchange made up the difference (since the liquidated positions were the result of margin calls), and then asked major market makers to eat some of the loss, which it sounds like they did.  Below is a copy of the text provided by Deribit.

The case highlights another situation where market participants are at risk since crypto financial intermediaries such as exchanges provide users with too little information about their financial position. With the absence of clearinghouses or independent rating agencies, users are left bearing a lot of risk, and its difficult for users to guage the magnitude of this risk.

Yesterday around 14.00 UTC we had liquidation algorithms of portfolio margin users creation a chaos in the 29 December future. This resulted finally in bankruptcies of more than 105 BTC. Further various client accounts had unjust losses due to liquidations as well.

 

We had to halt trading yesterday for a while to fix the issue before we could continue again. We are sorry for the downtime.

 

We solved the issue of the losses by contacting our biggest market makers and traders that have been making profits trading against the malicious algorithm at prices far above the market. We are grateful for their understanding of the incident and for their direct support of our exchange.

 

Further we decided to refill the insurance fund further such that all other traders will remain completely unaffected and no profits will be socialized among other traders in this session at all.

 

The total final loss left for the exchange amounts to around 60 BTC (or USD 235.000 at the time of writing). Please note that all users’ funds are safe and we as an exchange can, of course, handle a loss of 60 BTC. The exchange will continue operating as normal.

 

This was our first major incident since we opened doors for trading in the summer of 2016. We will work hard now to improve various liquidation algorithms such that this could never occur again. This might further delay the launch of new products like Ethereum futures and our upcoming Spot Exchange.

The insurance fund will also be replenished again with 25 BTC.

How to trade bitcoins on QuadrigaCX

Now that you’ve opened and verified and also funded your QuadrigaCX account, you are ready to trade some Canadian dollars and US dollars for bitcoins and ethereum. This post will explain how to make a trade on cryptocurrency exchange QuadrigaCX.

After logging into your QuadrigaCX account, choose the “Trade” tab from the main menu. When on the “Trade” menu, you will see the current order book displayed for the default market (btc/cad) with the bids displayed on the left side of the page and the offers displayed on the right side. Stacked on top of the order book are order entry modules that you can use to place your order.

If you are unfamiliar with how a market works and/or how prices are formed, the first thing you do is examine the current bids and offers. The bids and offers listed are orders from other users who have placed orders to either buy or sell at certain prices. For example, if you see a bid price of $4,000 CAD for 2 BTC, this means that someone (or a number of users) has placed an order to buy 2 bitcoins at a price of $4,000 CAD.  Oppositely, if you see an offer for 2 BTC at $4,010 CAD, this means that someone (or a number of users) has placed an order to sell 2 bitcoins at a price of $4,010 CAD.

The “price” of bitcoins is simply the last time that a bid or an offer was matched. If you want to buy bitcoins with Canadian dollars, then examine the offers. Using the example above, the lowest price offered is $4,010 CAD for 2 BTC. This means that you can buy up to 2 BTC at a price of $4,010 CAD. If you want to buy 0.10 BTC, and this price meets your objective, then go ahead and enter your order to make a transaction. Using the BUY side order entry module on the left side of the order book, enter a price of $4,010 and quantity of 0.10 BTC. As you enter your order details, you will see that the order entry module dynamically updates to reflect your inputs. This helps you confirm the price and amount you wish to enter.

Once you have input your desired price and quantity, and reviewed your order, simply press the “buy” button located within the order entry module, and your order will be sent to the market. If the current offer was $4,010 and you enter an order to buy at this price, your order will be matched and filled. This will mean you purchase bitcoins at this price.

Conversely, if you’d like to sell bitcoins, the same mechanics are used to sell, but instead of trying to pay the lowest price, you are trying to sell at the highest.

Maybe you’d like to buy bitcoins, but only if they reach a certain lower level. Maybe you’ve determined that a price of $3,500 is the highest price you are willing to pay. You can enter these details in the order entry module, and your order will be sent to the order book where it waits until the market falls to this price, or you cancel your order. This is called a “limit” order. From what I can tell, there is no time limit to how long orders can sit.

QuadrigaCX is the best place for Canadians to buy and sell bitcoins with the most liquid order book and the most stable deposit/withdrawal methods. Please use this link to open an account as it will mean some referral revenue for me 🙂

A Few Good Crypto Investments

I get asked quite frequently (a few times a day) from friends about which crypto currencies to invest in. The post below provides my current thoughts that I hope will help my friends make better cryptocurrency investment decisions.

From my experience, most crypto investors approach the idea of investing in cryptocurrencies from the bottom up. They hear about a particular crypto currency and then consider whether its a good investment. I think a better approach is to step back and come up with a basic investment strategy, even putting it on paper or in an e-mail is a good idea. Think about your entire investment portfolio and consider how cryptocurrency investments fit with your overall mix. My first and main recommendation is to remember that investing in cryptocurrencies is very risky. Not only is there a risk of hacking and other technological risks, there are also major credit risks, and a almost complete lack of regulation. This means that if your crypto currency investments go sour (or get hacked) you very likely have no legal recourse. So think about the big picture and put things in perspective.

With risks in mind, I think crypto currencies should only make up a small portion of an overall investment portfolio, unless you are in the business of investing in cryptocurrencies, treat cryptocurrency investments as a hobby and a small portion of your overall portfolio.

In addition to a portfolio approach, I also encourage crypto investors to consider active investments, rather than just holding a particular crypto currency as cash. Most crypto investors imagine buying a particular crypto currency with the idea that it will gain in value and they’ll be able to sell it again in the future for a profit (relative to their home fiat currency). While waiting for this time to occur, they simply hold the crypto currency in a wallet or on an exchange. This is a highly speculative activity, and unless you have a particular trading process, I think in the long run the transaction costs and opportunity costs will eat up your speculative gains. But, if you want to take some risk, then buying and holding cryptos on account might still be profitable for you.  If you have a clearly defined process to make trading decisions, then you might get ahead.  Otherwise, my bots will earn your transaction fees 🙂

I think a better approach is a mix of some cash crypto investments (holding particular cryptos in wallets or on exchange) combined with some active investments where you can earn returns on your capital. This would involve investments where you put your capital at risk and earn returns in exchange, on top of your FX gains.  Below I describe three types of crypto investments where you can take risk to earn rewards.

The crypto capital markets are in an early stage of development and so you may find alpha is a lot easier to find than in mainstream fiat economies.

Gambling Bankrolls

Most of us are familiar with casinos where the financing of the games and the operation of the games are done by the same entity. This is the result of the scale required to run a modern land based casino, but also because of the regulatory structure in most advanced jurisdictions. New technology and the application of blockchains makes it possible to separate the financing of the casino from the operations. We are entering a world in which the bankroll is funded by one group of investors and the operations are done by a separate group. The way this works in practice with cryptos in this “open sourced” model is a casino operator will allow investors to contribute to the bankroll of the games. The operator will then run the games and the investors will receive the gains and losses from the other side of player’s bets. Every period, the operator takes a fee from the gains/losses and attributes the bankroll investors with their portion. The model also works when the operator takes a fixed fee each period.

There are many online crypto casinos operating with this model and new ones are emerging all the time. There are benefits for both the bankroll and the operator perspectives. The bankroll investors get a passive investment that involves only financial risk. The operators get access to capital and so they can focus on running/promoting the games.

The rates of return for bankroll investors can be quite high and depend on the volume of bets the operator can drive through the games. The bankroll risk also depends on the underlying volatility of the games as well as the volume. Offering games with high payoffs or even money payoffs will make an impact on the volatility of bankroll returns, but more bets overall will smooth out those returns. The market will find an optimal rate of return based on these factors.

The bankroll investors must also consider the credit risk of the operator, and this is this is the primary risk at the moment. If the operator is fraudulent, there are very few ways for the crypto currency investor to tell. Some statistical methods of past results can be used to determine the validity of the data, but other than that, a large amount of trust is put in the operator. This might scare away many investors from funding open sourced bankrolls, but the gains are also large and I think in many cases they compensate for the risk.  We’re talking about 40% annualized rates of returns on bankroll investments. As long as you stick to the best quality operators.

Here are some open sourced bankrolls to consider:

crypto-games.net

just-dice

bitdice.me

Each of these casinos are funded by a open sourced bankrolls, and each are all structured a little bit differently. The basic fees that you’ll pay are a percentage of gains attributed to your account each period. A fee of 10% seems to be the current industry standard. These investments can mostly be made with bitcoins, but other crypto currencies as well.

Margin Lending

A good way to earn extra income on your cryptos is to lend them out to traders on exchange. This “open sourced” margin lending is offered on a few of the major exchanges including Poloniex & Bitfinex. Their model is to allow traders to take margin loans from users on the exchange for a rate of interest and basic contract terms. There are margin requirements that traders must meet, and if they fall below these margin levels, their position is blown out by the exchange. The nice thing about these loans is since these exchanges are highly liquid, there is almost zero risk of default to the lender (except in the case of a catastrophic event). The main risk to the lender is the credit worthiness of the exchange. If the exchange fails or is hacked, lenders will likely suffer losses. This has happened on both Poloniex and Bitfinex in the past. Although both exchanges eventually refunded the losses.

The way these margin loans work is a user would deposit their crypto currency on the exchange, and then enter into the lending market for particular cryptos. Its an open market, so lenders can choose to work limit orders for particular loan terms and rates. My opinion is that using a bot by accessing the exchange thru their APIs to automatically build your lending book is the best method of investing. It can be time consuming to login each day to make your loans, and you also might find your capital sits idle if you don’t put it out to traders.

Mining

Mining cryptos is often times easier than you might think. As long as you’re not competing in the largest and most liquid cryptos. Its tough for a small time investor to earn an economic rate of return mining bitcoins or ethereum nowadays, but there are many new cryptos emerging and there are still lots of opportunities using cloud mining pools and proof of stake coins. There are a lot of cloud mining scams out there, so you need to be aware of the most reputable operators such as Genesis Mining and Minergate.

The toughest part of mining is the technical aspects of setting up the software. Using a mining pool takes away most of this challenge because you can usually just plug into a miner that’s already setup and receive your portion of the group’s reward based on the capacity you contribute.

Another good option to earn mining profits is to setup a proof of stake miner such as CLAMs, NXT, LSIK, and other proof of stake coins. Proof of stake mining rewards are based on the number of coins you have on the miner, and not your computing power. So proof of stake miners are useful for those with capital, but not as much computing power or technical skills.

Bitcoin Blockchain Slowing, Fees Rising

During its early days, one of purported benefits of bitcoins were cheap transactions. Transfers between bitcoin users could be made peer to peer in a trustless system without transaction fees. The design of the bitcoin blockchain rewards miners who update the blockchain by giving them newly created bitcoins at a pre-determined rate. The idea of mining rewards supporting the blockchain assumed the newly minted bitcoins would provide enough incentive to miners who would contribute enough computing power to keep the blockchain live. However, as bitcoin has grown, and the volume of transactions has increased, transaction fees are having an increasing influence on processing bitcoin transactions.

4 days ago, I initiated a transfer of 0.50 bitcoins from one address to another. This used to be a quick and painless transaction. A few years ago, I didn’t even need to attach a fee to my transaction, and it would get processed in a timely manner. But this time, I chose a low fee and my transaction sat in digital purgatory for several days. Not only did the transaction sit on the blockchain unprocessed, but of course, I could call the address on a blockchain explorer and see the transaction sitting there. In many other payment networks, there is a standard lag of time between transaction initiation and final processing, so there is a window of time where a transaction could be initiated and then cancelled. If you write a paper cheque and give it to a service provider, if something goes wrong in the time the cheque is being delivered and processed by the payment network, you can instruct your back to “stop payment”. There is currently no easy to use “stop payment” mechanism with bitcoins. So for 4 days, I watched my transaction sit on the bitcoin blockchain without any confirmations, hoping, wishing, waiting.

The whole experience brings up questions about the changing role of transaction fees to newly minted coins as the miner reward for blockchain updating. How has the role of transaction fees changed over time, and what can we expect to change in the future?

One of the challenges with the way bitcoin was designed is the hard coded cap on block size. Bitcoin actually has a limit of 1MB block size. Miners can mine blocks up to the 1MB fixed limit, but any block larger than 1MB is invalid. This feature of bitcoin has become more important as volume has grown. The transaction processing lineup has got so big, that participants need to assign a large(er) reward to their transaction in order to incentivise miners to process their transaction in a timely manner. The limited bitcoin block size fuels calls for forks such as Bitcoin Unlimited and provides incentives for the creation of competing coins.

We can measure the transaction fee rate, and compare changes over time to understand how transaction fees are changing, how it is impacting volumes, and how this might change in the future. There are online services that provides us with information we can use to set fees.

Here is a page called Estimate Fee that estimates the fee required to process a bitcoin transaction within a number of blocks.

If you are running the bitcoin client, you can see the command used to call this data. According to this page, in order for your transaction to be processed in 25 blocks, you will need to assign a reward (fee) of 0.00198749 bitcoins. At the time of writing, with bitcoins worth $2,500 USD, that fee is worth $4.96. If there are 135 blocks per day being processed at the time of writing, a 25 block transaction can expect to be processed in about 4.5 hours.

I don’t necessarily think that the limited block size will mean the death of bitcoin. Making something expensive to move might mean bitcoin becomes (or has already become) impractical to use as a means of retail payment. But a high transaction fee might have some other benefits. The network and first mover advantages of bitcoins might mean they will increasingly be used as a clearing currency, and since each transaction is just a number (each transaction “number”, whether a large value one or a small value one) it might make sense to only process large value transactions in bitcoins, not retail transactions.

The blockchain is only updated once a transaction moves value from one address to another. If payments are being made within a network, no transaction fee needs to be applied. If you deposit bitcoins on an exchange, you send your bitcoins from their current address, to an address at the exchange. Once on the exchange address, the exchange operator can hold the bitcoins for you, and you can transfer the bitcoins within the exchange without interacting with the blockchain, between other exchange participants, until the money needs to leave the exchange again (in order to process a withdrawal perhaps).

At the outset, many bitcoin enthusiasts thought bitcoin would provide an alternative payment network, and it does, but this doesn’t mean payment networks won’t exist within the bitcoin blockchain. I believe that with the rise of bitcoin transaction fees, there will be a greater incentive for payment processors to emerge within the bitcoin blockchain in order to clear transactions quicker and cheaper without having to interact with the blockchain itself, thereby avoiding the associated fees. Such a system still supports the development of bitcoins, because the bitcoin blockchain will still fulfill a function of money as a unit of account since payment network (unless they are fraudulent themselves) will still need to net off balances.