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‘I was panicking’: the high-risk bets sparking a backlash at Binance

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Cryptocurrencies updates

Binance is to cut drastically the risk clients can assume in one of its flagship cryptocurrency products after a backlash from regulators and consumers over high-risk derivatives that can quickly leave users with painful losses

The crypto exchange, which facilitates hundreds of billions of dollars worth of trades a month, said it will reduce the maximum leverage — the amount investors can borrow to magnify their bets — on its futures contracts to 20 times from a previous peak of 125 times. Crypto mogul Changpeng Zhao, who runs Binance, said the cuts were “in the interest of consumer protections” and would be applied over the “next few weeks”.

Binance’s announced its decision on Monday after a similar move by rival FTX at the weekend. It comes around two months after traders lost an estimated $8.6bn through liquidations during a crypto flash crash on May 19.

Line chart of Bitcoin futures volumes, 14-day rolling average ($bn) showing Binance's derivatives business has boomed this year

“It’s just plain wrong that a lot of these unregulated crypto platforms have been giving retail investors so much rope to hang themselves,” said Stephen Kelso, head of markets at brokerage ITI Capital. He said cutting leverage is an “inevitable response to popular outrage at taking advantage of retail clients”.

Binance’s futures contracts are some of the most actively traded products in the trillion-dollar market for crypto derivatives. The platform, like several of its competitors, allows traders to make huge gains based on small cash stakes. But consumers’ capital can be wiped out by a minor jolt to hyper-volatile crypto markets.

‘Very big bets’

The UK financial watchdog has banned the sale of crypto derivatives to retail traders over concerns they are too risky, and regulators around the world have tried to crack down on the unauthorised sale of these products by crypto platforms. However, offshore exchanges like Cayman Islands-incorporated Binance have continued to offer these derivatives, even to residents of jurisdictions where they are banned.

Binance is a leader in crypto derivatives known as perpetual futures, which track the price of digital coins ranging from bitcoin and ether to more esoteric tokens like dogecoin. Potential returns, and risks, are magnified by the very high levels of leverage users can take on.

Anatomy of perpetual crypto futures

Perpetual crypto futures differ from those typically offered in conventional markets, such as those that track the price of oil, wheat or stock indices, because they can be held indefinitely.

The expiration date on conventional futures helps link the futures contract to the price of the underlying asset, since the holder typically takes delivery of the asset on that date.

Animated chart showing the risky appeal of perpetual bitcoin futures. Using a hypothetical scenario starting on February 2 2021, it shows how results varied between automatic liquidation and lucrative returns

With perpetual futures, a “funding rate” mechanism links the futures price with the spot price. When the two diverge, a party on one side of the trade must pay the other during a set window every eight hours. These payments are based on the notional size of a trader’s position — meaning they can be substantial for highly-leveraged bets.

On Monday, Binance customers could still make bitcoin futures trades with leverage of as much as 125 times the amount they put down. A user can, for example, place the equivalent of $2,500 on the table to take on a $250,000 bet — 100 times leverage.

That stretches well beyond what customers can do in many conventional markets. In the UK, retail traders are limited to 30 times leverage on contracts for difference — risky bets on the foreign exchange market.

Binance automatically liquidates clients’ trades when losses on the bets exceed investors’ dedicated deposits. On heavily leveraged trades, that can mean even a small move in the price of bitcoin can drain customers’ funds.

“These complex mechanisms are simply not understood by somebody unless they are an expert in financial markets and crypto, and there are not many of those around,” said Carol Alexander, a professor at the University of Sussex who studies the digital asset market. Traders “have a very small margin [for error] but they are taking a very big bet”.

‘The most traumatic experience I’ve ever had’

Susanna K, a marketing executive from Sydney, Australia, was caught in this situation when crypto markets crashed in a two-hour period of intense volatility on May 19.

Susanna started trading in the surging crypto markets during the Covid-19 lockdowns of 2020, with help from friends and information from YouTube videos. “It’s not like I’m a novice or anything,” she said. She began trading derivatives on Binance a few weeks earlier, after making at least $150,000 trading coins on the exchange in early 2021.

As prices began to plummet, Susanna had several hundred thousand dollars on standby in her bank accounts, which she started moving on to Binance to prevent her positions from being liquidated. But she said she could not shift the cash quickly enough and also struggled to use Binance’s systems, which faced technical issues that day.

By the end of the day, she was down more than $250,000. “I was panicking,” she said. “It was the most traumatic experience I’ve ever had in my life.”

Case study: The ‘auto liquidation’ spiral

Automatic liquidations are one of the main features of leveraged crypto trading. The higher the level of borrowing, the greater the risk a trader’s initial capital will be wiped out.

When a user enters a trade, Binance determines a “liquidation price” that takes into account factors like the initial leverage, funds backing the futures trade and starting price.

The Financial Times used Binance pricing data and the exchange’s mathematical formulas to build this case study. The trade was entered on February 2, 2021 when bitcoin was trading at $33,468.

This $2,500 trade was entered at 100 times leverage, giving it a “notional” size of $250,000. It would take a drop to just $32,293 for Binance to liquidate the bet. This trade initially would have performed well as the bitcoin price soared, reaching a maximum profit of more than $180,000 excluding fees and funding costs.

Animated chart showing two turbulent hours on May 19 2021 for perpetual bitcoin futures.

But the flash crash on May 19 — in which the bitcoin price tumbled from around $38,000 to around $30,000 in less than two hours — quickly left the trader with the choice between closing the trade, potentially at a loss, or putting in additional capital to keep it going.

To avoid getting liquidated, the user would have had to stump up around an extra $30,000. If they fell short, they risked losing it all.

Binance also allows users to access a more sophisticated feature called “cross-asset” margin, in which the liquidation price is also affected by unrealised gains and losses on other trades in addition to the amount deposited in a user’s futures account. This means that when markets are tumbling in tandem, it can cause a domino effect where each soured bet also increases the chances other trades will also go bad.

These types of spirals, where traders inject ever-increasing amounts of capital in an attempt to shield their initial outlays, are one of the factors that make leveraged crypto bets so risky.

Many traders who suffered losses like Susanna have turned to social media platforms such as Reddit and Discord, which had helped build the popularity of crypto trading, to swap stories about their misfortunes. Hundreds of Binance customers from around the world have formed online groups in order to pursue the exchange for compensation. 

Many have had limited success so far and Binance says it will only accept claims when “users experienced actual losses due to system issues or errors but not as a result of market volatility”.

The company said some users who claimed losses “had previously made profits during the bull market”. It said this is “often a sign that a user has started to assume they will always be on a winning streak and neglect the inherent risk in all trading activities”.

Data visualisation by Alan Smith.

 



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PayPal to acquire ‘buy now, pay later’ provider Paidy for $2.7bn

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Mergers & Acquisitions updates

PayPal, the US online payments company, has agreed to acquire Paidy, a Tokyo-based “buy now, pay later” group, for ¥300bn ($2.7bn) in the latest shake-up in the industry.

The deal announced late on Tuesday, which will be paid for principally in cash, deepens PayPal’s push into the crowded BNPL sector, in which consumers spread the cost of goods over a small number of payments, typically without interest and often without requiring a credit check.

Last month, Square, the payments company led by Twitter chief executive Jack Dorsey, acquired BNPL group Afterpay for $29bn, in the largest takeover in Australian history.

Shares in San Francisco-based Affirm, another BNPL company, soared last month after it announced a partnership with Amazon allowing shoppers who spend more than $50 to make payments in monthly instalments.

Paidy, founded in 2008, is one of Japan’s few “unicorns”, or start-ups worth more than $1bn. The company launched the country’s first zero-interest post-payment service last year.

While the global BNPL market has exploded in popularity owing to the pandemic-driven boom in online shopping, the trend is only starting to catch on in Japan, where consumers still depend heavily on cash payments.

Paidy allows its 6m registered users to split the cost of goods into three equal instalments with no interest. Users can pay off their balance using cash at convenience stores or bank transfers.

According to Yano Research Institute, the volume of transactions made through post-payment services in Japan is expected to more than double from an estimated ¥882bn in fiscal 2020 to ¥1.88tn by fiscal 2024.

Paidy was valued at $1.3bn when it raised $120m in March, and was expected to list its shares in Tokyo later this year. It has been backed by trading house Itochu, Goldman Sachs and Soros Capital Management along with PayPal.

Russell Cummer, the Japanese fintech’s founder, recently told the Financial Times that a public listing “made sense” — though no firm timetable had been established. Instead, the company is now expected to become part of PayPal by the fourth quarter of this year.

“Paidy pioneered ‘buy now, pay later’ solutions tailored to the Japanese market and quickly grew to become the leading service, developing a sizeable two-sided platform of consumers and merchants,” said Peter Kenevan, PayPal’s vice-president and head of business in Japan.

“Combining Paidy’s brand, capabilities and talented team with PayPal’s expertise, resources and global scale will create a strong foundation to accelerate our momentum in this strategically important market.”

PayPal said Paidy would “continue to operating its existing business, maintain its brand and support a wide variety of consumer wallets and marketplaces”. Cummer and Riku Sugie, Paidy’s president and chief executive, will continue to lead the company, according to a statement.

“Paidy is just at the beginning of our journey and joining PayPal will accelerate our plans to expand beyond ecommerce and build unique services as the new shopping standard,” said Sugie. “PayPal was a founding partner for Paidy Link and we look forward to working together to create even more value.”

The acquisition comes as PayPal rolls out its broader strategy to become a “super app” — incorporating payments, cryptocurrency investments and savings — drawing inspiration from under-one-roof Chinese apps such as WeChat.

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Bitcoin: El Salvador’s experiment does not warrant cross-cryptocurrency price rise

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Bitcoin updates

Early adopters of virtual currencies have a clear incentive to promote mainstream acceptance. The more buyers, the higher the price. Crypto fans, therefore, hatched an online plan to bolster bitcoin as El Salvador legalised the tokens for payments. That was logical. The knock-on rise in other cryptocurrency prices was not.

Bitcoin’s 8 per cent rise over the past seven days means that it is now worth about $51,000. But according to data from CoinGecko, which tracks more than 9,000 coins, it is not the largest mover. Ethereum, the world’s second-largest cryptocurrency, has leapt 16 per cent over the past week. Solana’s SOL tokens have risen 69 per cent.

There is no sensible reason for these rallies. El Salvador is not expected to make other virtual currencies legal tender. Instead, the jumps reflect a soupy mixture of low rates, blind faith and better investor access.

Trading apps make it easier for retail investors to buy cryptos. The initial public offering of Coinbase in April raised its profile, leading to a jump in downloads.

The make-believe world of nonfungible tokens, or NFTs, has also given cryptos a boost. These prove ownership of digital assets such as art, music or even virtual pet rocks. Many use the ethereum network. Solana, which is backed by Andreessen Horowitz, has its own NFT marketplace, Solanart.

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None of this, however, has anything to do with El Salvador’s attention-seeking adoption of bitcoin. This diverts domestic attention from the failing economy of this impoverished Central American nation, the first country to embrace bitcoin as legal tender. It also supplies cheerier news flow to bitcoin fans than did the cryptocurrency’s collapse in value this spring.

Rising prices mean the total market value of cryptocurrencies has reached nearly $2.4tn. It is rapidly closing in on the previous record of $2.57tn set in May. Bitcoin’s share of the market has fallen. It is now about 40 per cent, down from 57 per cent a year ago. Yet bitcoin remains a powerful bellwether.

This could be a problem if bitcoin’s latest rally depends on success in El Salvador. President Nayib Bukele says the country has purchased 400 bitcoins — equal to just 0.002 per cent of the outstanding value. Local opposition is widespread, suggesting take-up will be low. A damp squib is more likely than the financial dislocation some critics are prophesying.

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Europe stocks notch best day in 6 weeks on sustained stimulus hopes

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Equities updates

European equities had their biggest rise since late July on Monday as weaker-than-expected US jobs data suggested pandemic-era stimulus, which has helped prop up markets, may continue for longer than anticipated.

The Stoxx Europe 600 index gained 0.7 per cent, the region-wide benchmark’s best day in six weeks, as traders analysed the implications of a large miss in US job creation. Employers in the US added 235,000 jobs in August, which fell wide of economists’ projections of more than 728,000 new hires.

“The weak jobs number gave the Federal Reserve ample room to take it easy in terms of how and when it will taper” its $120bn of monthly bond purchases that begun in March 2020, said Maarten Geerdink, head of European equities at NN Investment Partners.

Before Friday’s non-farm payrolls report, some analysts had expected the Fed to announce a reduction of its asset purchases as early as this month.

European stocks, Geerdink added, were “in a sweet spot with the eurozone economy doing well while financial conditions remain extremely loose”.

London’s FTSE 100 index also ended the session 0.7 per cent higher while US markets were closed for Labor Day.

Column chart of Stoxx Europe 600 index, daily % change  showing European stocks notch best day in six weeks

Economists expect the European Central Bank to provide an update about its own debt purchases at its meeting on Thursday, with government bond prices signalling some expectations of a pullback. The yield on the benchmark German 10-year Bund, which moves inversely to its price, was steady on Monday at minus 0.37 per cent, around its highest point since mid-July.

Technology shares, which tend to perform well when expectations of low-for-longer bond yields flatter valuations of growth companies, were the best performers in Europe with the sector rising 1.7 per cent on Monday.

In Asian equity markets on Monday, Chinese shares rallied after vice-premier Liu He said the government would continue to support private businesses despite a regulatory crackdown across the technology and education sectors. 

“Policies for supporting the private economy have not changed . . . and will not change in the future,” Liu said in comments reported by state news agency Xinhua. The CSI 300 index of mainland Chinese stocks climbed 1.9 per cent. 

Japan’s Nikkei 225 gained 1.8 per cent as investors bet that last week’s abrupt resignation by prime minister Yoshihide Suga would usher in a successor more focused on protecting the nation’s economy from rising Covid-19 cases. 

Brent crude, the international oil benchmark, slid 0.7 per cent to $72.10 a barrel.



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