Market sentiment is the general interest in the underlying assets and the behavior of traders in the derivatives markets. Thanks to sentiment analysis, one can determine the position of long-term investors, who always sell during the uptrend of short-term speculators and buy dips with a statistically positive expectation. On the contrary, the psychology of the masses is irrational, as they often buy with bullish candlesticks for fear of losing and dumping the downtrend.
The first thing to consider when analyzing market sentiment is the amount of money which plays a pivotal role in whether the market is trending or consolidating as it depicts trading volume. In a bull market, the amount of money is increasing along with the price and vice versa, but it has gradually decreased since the May 2021 peak.
At the same time, after looking at the ratio of the buying volume divided by the selling volume to buyers in perpetual swap deals, values greater than one – other buy orders taken through market orders – indicate that an upward trend prevails. Similarly, values under one indicate the dominance of the downtrend as more sell orders are actively executed than market orders. Also, the 14-day exponential moving average (EMA-14) of the trader’s buy/sell ratio was negative and recently retested at one level, indicating that more sellers are willing to sell currencies at lower and selling pressure is stronger than buying pressure .
In a bull market, there is increased liquidation associated with an increase in price. The current total amount of liquidated long and short positions in the derivatives market is relatively low compared to previous bulls.
Funding rates represent the sentiment of traders in the perpetual swap market and the amount is proportional to the number of contracts. Positive funding rates indicate that traders with long positions are in control and are willing to pay funding to short traders. Negative funding rates indicate that traders with short positions are in control and are willing to pay long-term traders” (source).
The higher the absolute value of the funding rate, the more aggressive the traders. However, the current absolute value of the funding rate has been hovering near zero, which means that traders are not aggressive given the prevailing economic conditions.
One of the most important factors in the derivatives market is the open interest (OI) which is defined as the number of positions currently open in the derivative exchange trading pairs. The increased OI from March 8 to March 28, 2022, is so overheated and deliberately driven by short-term traders that there was an open capitulation that started at the peak of $48,000 on March 28. Hence, it is unable to support the potential upside trend.
Meanwhile, the total number of bitcoins held on the spot exchange has reached a four-year low, which is often seen as a good sign in the underlying activity on the chain.
But more importantly, it may not be retail activity as the number of exchange-stream addresses has decreased since May 10, 2021. This suggests that not many retail investors have moved these coins off the exchanges but could be a whale buildup instead.
In addition, the downward trend in stock exchanges and overheating OI makes the estimated leverage ratio higher, calculated by the exchange’s open interest divided by their bitcoin reserves. It reveals that users are using higher leverage on average, i.e. more investors are taking higher leverage risk in derivatives trading.
Last but not least, the net unrealized profit and loss (NUPL), which is the difference between market capitalization and realized value divided by market capitalization, indicates that the capitulation phase has begun since May 2021. The maximum value of the proportion of investors making a profit was on that day, and it followed sale. At the moment, Bitcoin may be in the middle of this stage with a reasonable reason to take profits until the selling pressure is over.
In general, market sentiment is not as strong as on-chain activity. There is a possibility that we may be in a semi-bear market where the continuous capitulation since May 2021 has been in effect, and the ongoing build-up phase appears to be killing the short-term speculators.
This is a guest post by Dang Quan Vuong. The opinions expressed are their own and do not necessarily reflect the opinions of BTC Inc. or Bitcoin Magazine.