Panic Sell-Offs Underscore the Issue of Centralization in the Exchange Market

The coronavirus pandemic has caused tremors in the financial markets across the globe. On March 12, as the virus started to take hold in Europe and the US, investors panicked. Mirroring what had already happened in the stock markets, investors began dumping their crypto assets. Bitcoin marked its biggest single-day drop since 2013, dipping below $4,000 at one point.

Looking at the news reports focusing on events in the crypto markets on that day, one exchange seems to be more of a focus point than others. Almost all of the major crypto news outlets, including Coindesk and Cointelegraph, ran with headlines about BitMEX, variously focusing on the fact it had experienced 45 minutes of downtime and that its auto liquidation engine had force-liquidated over $700M worth of assets in a single day.

As is typical with stories about BitMEX outages, numerous parties on crypto-Twitter cried foul play. Some accused BitMEX of manipulating the price of Bitcoin, whereas others stated that it had used trader’s losses to top up its already healthy insurance fund. For its part, BitMEX had ended up providing a refund to ETH/USD traders who ended up losing out as a result of the forced liquidations.

It’s typical of these allegations that they end up being impossible to prove one way or another. However, the fact that it’s even possible or plausible that BitMEX could manipulate the price of Bitcoin, the biggest asset in crypto by market cap, points to a far more deep-rooted problem.

As the longest-established cryptocurrency futures trading platform, BitMEX had been able to dominate the markets from its launch in 2014 until mid-2019. In fact, one report stated that until last summer, the Seychelles-based company accounted for a staggering 80% of all crypto futures trading.

However, the last year or two has seen many more exchanges enter the space, to the point that BitMEX’s market share has fallen to around 40%. It’s a significant drop but nevertheless indicates that crypto derivatives remain heavily centralized. The entry of established big exchange players like Binance and Huobi doesn’t do much to offset this risk.

This is why the trading volumes following the incident on March 12 make for intriguing reading. According to Skew data, traders in Ethereum futures turned to newer exchanges on March 13. Both Bybit and FTX recorded higher trading figures than BitMEX on that day, with only Coinflex, Kraken and Deribit recording lower volumes.

The trading figures illustrate that when BitMEX makes a misstep, deliberately or otherwise, traders are voting with their feet and, in many cases, turning to newer exchanges that are dedicated to crypto derivatives. Both Bybit and FTX are relatively new, launched in 2019, and have been making significant headway in eating away at BitMEX’s market share, amid a booming market for cryptocurrency-backed futures.

In particular, Bybit appears to have emerged from the shadows as an extremely viable contender to BitMEX’s throne. Historical trading data for BTC futures shows that Bybit has overtaken many other competitors on daily trading volume, including FTX, Bitflyer, and Deribit, the latter of which has been in operation since 2016.

The reason for this growth could be attributed to Bybit’s approach to the market, which differs from other competitors. Many smaller crypto derivatives exchanges have taken the route of offering different products to BitMEX.

For example, for a long time, Deribit’s USP was its crypto-backed options contracts, while FTX has been attempting to innovate with products such as leveraged tokens. However, neither of these strategies does much to address the challenge of centralization in the crypto markets.

In contrast, Bybit appears to have been positioning itself as a direct competitor to BitMEX’s perpetual contracts. The company has developed an auto liquidation mechanism that’s designed to protect traders from the kind of issues that they experienced on March 12, which is evidently proving popular.

Unlike many exchanges that simply price based on an index, Bybit uses a dual-price mechanism consisting of mark price and last traded price. This protects traders from price manipulation. The company also performs more checks on the position before liquidation. Traders must select a risk limit level for their positions, and Bybit’s liquidation engine will attempt to dynamically reduce the maintenance margin to a lower risk level to avoid liquidation.

Bybit also offers low withdrawal fees and the opportunity to withdraw around the clock. This may be more attractive for a trader looking to immediately reinvest their profits in new positions. After all, market conditions can change a lot in 24 hours - just look at what happened on March 12.

Furthermore, Bybit is a friendlier experience for new traders, which may also have helped it gain market share over the time since it launched. It has a user interface that’s intuitive and easy to understand. It also pays out in the underlying currency of the perpetual contract being traded, rather than denominating profits in BTC, which can be confusing.

If decentralization is the goal, then it makes sense that traders start to move away from BitMEX, particularly if it’s true that the exchange is exerting influence over the price of Bitcoin, inadvertently or otherwise.

The crypto exchange market in general is already heavily centralized, with platforms such as Binance and Coinbase also holding significant influence. However, the emergence of newer exchanges gives traders a chance to vote with their feet, and ensure that a diverse crypto exchange market protects from the risks of price manipulation through centralization.