The Bitmex Blowup - Patrick Dugan

The Bitmex Blowup - Patrick Dugan

. 10 min read

About this episode

Patrick comes back for another great episode with host Samuel McCulloch and discusses the recent price collapse, Bitmex conspiracies and the soon-to-be-launched Tradelayer.



Where to find the show

iTunes | Spotify | Stitcher | Youtube | RSS Feed

What to listen for

  • Why interest rate arbitrage is all about the basis point, and this is its day to day liquidity mechanism.
  • How Bitmex is the solar system of these trades and flipped the switch when the market seized up completely.
  • Why when Bitcoin is not correlated to the stock market and is left to its own devices, God help us all.
  • Why the Asian open hour is always a good indicator of flows and market structure.
  • Why the conventional markets are correlated to bitcoin when there are liquidity demand spikes.
  • Why when they flash crash Bitcoin, the loss is so great systemically that it crashes the market and this is what happened with Bitmex.
  • How Tradelayer would create trade channels to execute trades and create liquidity with oracles and without an order book dependent on co-located market makers.
  • Why the dollar will be the trade of this decade and how its strength will cause problems across the world.


If you like End of the Chain you can help support the show by doing one of the following:


Ethereum: 0xDAb148614f22dDa800cF006Be7932eeEB75AC644


Patrick was one of the first guests I had on the show that talked about interest rates, and this was almost a premonition of what was to come in DeFi and the year that came after.  

I want your thoughts on what happened in the markets over the last few weeks and today is 20th March. Bitcoin has ripped back up to 6600. I guess there is a conspiracy put forward by Sam at FTX (bank man), it seems that the overarching theory is: On 11th March there was a catastrophic market push of 287,000 Bitcoin that was sold off by professional traders where the price as 9000 and after this, it took the price on 13th March to 3500.  If you can move the market with 1/3 even of spot quantities, then you are actually a derivatives position.  The pricing on Bitmex has no correlation to the spot market.  

If the spread is blown out, then you have to pay the rate (pushing the rate negative).  This incentivised short spots on the market, and this got so dislocated from the rest of the futures market it was ridiculous. Around sub 6000 things started really dislocating.  The spreads started getting wider and wider; it started getting destroyed and a rolling margin call. There was no liquidity; nobody was bidding.  The total combined interest in Bitmex in total are many be 3-5 million.  A lot of those future positions are people who are shorting it and then buying the swap.  Those guys are working a few percentage points on their accounts.  Therefore, it is not supposed to go negative 6.  

Interest rate arbitrage is all about basis point.  That is the day to day liquidity.  People are taking advantage of these movements. Bitmex is still the solar system of these trades.

On 12th March, as soon as we passed under the 5000, we had the first dump in the morning.  This can be a full episode for the twilight zone.

I was fully hedged and short perps.  It is the most popular world religion.  As we had a clean break under 9000, Deribits tend to stay at zero.  This was a normal break.  There was a 1.2 million volume. That is a lot of money. The other thing we have to factor in here is that a black swan event, Tether is a swap market also it just doesn’t have an interest rate, so it is a perpetual future they have written themselves. There are some fractional reserves in it, but it is not fully collateralised.

Re: the Bitmex scandal. I got liquidated both sides, and the slippage was worse than the liquidation fees.  It was a curved position which was working for me. There was a little delta slippage.  The climax of this story is that I took advantage of the Apex of this story, and we had a strong reversal, 3.6 sigma rally. Do you think these people could have pushed Bitmex to $1?  Phase 1 happened when it broke 9000, 7th March.  It was pretty clean from there.  

If we had a better market structure, that might have been, it has more to say about when Bitcoin is not correlated to the stock market and is left to its own devices. God help us all.

The Asian open hour as I like to call it is often good for short term positions and trades as you will see one or two hours where there is a move up or down and flows in futures, Tether, derivatives etc.  My time it would have been 4 am-5 am in the morning, that is when we had the big dip down.  Do you have a chart of S&P/Bitcoin price comparison?

Now we are at 2740, and we are on the low end of the range where we have been early February. It is what it is. This is a decent range until we get to a net inflow.  Do not lose your coin trying to leverage it.  This is the ratio between Bitcoin/SPY.

The real fun started with Bitcoin when it broke down past 4000.  We have a one-hour candle.  Some of this stuff happens in one minute. The relocations started to happen at 6 pm New York time, and there were these giant margin calls.  It was a little bit more orderly than it could have been.  It really started to get disconnected at this point – from the micro-structural viewpoint.  We completely exhausted all the bids.  What we had in the evening is a lot of spot buying and retracing. In a sense there was a functioning market, I was buying/selling and quoting in September.  There were $200 spreads in the order book.  Bitmex is still fine at this point in the story.  The evening session it just got destroyed in a 5-minute candle. The conventional markets are correlated to bitcoin when there is liquidity demand due to events. This structural volatility limit collided with the structural volatility limit; in theory, you could have a perpetual swap that goes as wide as the market takes it.  It is kind of crazy to think about it. If a guy is 100x leveraged in this, they make the max funding event so big that he will not get liquidated.  If you were thinking about this as a short, we would have spot inflows hedging it is the spots pay.  Negative rates don’t matter that much.

The spreads blow out between BitMex and CoinBase and all the other exchanges. Things just go haywire for roughly about two hours. There is a massive sell-off – liquidation wall in Bitmex, and it seems unstoppable.  There was a point where it just went over the edge. That is when things got extremely dicey.  I was repositioning seeing the flow, and I was booking some bitcoin as profit.  It was a quick, quick move.

When the market spreads like this, at the extremes it is, it is really shitty for market makers. They are not able to provide liquidity into the markets at these times. They are supposed to keep the spreads tight and when they get fucked like this, completely run out. Liquidity dropped to zero.  But what happens if they can drive it down and it disconnects from the spot market, and push it down for just a few seconds. That is all it takes. In that scenario, when they flash crash Bitcoin, they would be in a situation that the loss is so great systemically that it crashes the market. Only so much volume is going to execute at that level.  I did not hold the leverage; I do not have enough pirate in me to say that leveraged.  

Whatever the scale is, the pattern is the same.  It is like a wave five down.  It was one of those. We got the deviations, and I saw the push above 4500.  I was saying to a friend of mine, relax this is looking like a bottoming move.  The way bottoming move get moving is that they get this pump and then it is like over the next forty minutes it moves up very quickly to another support.  Do you think Bitmex pulled the plug at 3500?  Of course, so I can’t say that, and I can’t quit.  Bitmex has a lot of responsibility for other people’s money and assets.  They are calling it a DDoS attack on Bitmex on the queue to the book. Instead of doing rollbacks later, they may have just turned off their system for a minute.  Maybe they did; maybe they didn’t.

Let’s look at the counter-argument, and I will plug my thing. With Tradelayer, instead of having all the liquidity makers co-located in one hard location, the stack is processing things in packets, there is latency there. Then there is the sequence flow through.  EMX and Deribit had a freeze up in this time too.  Everybody kind of went down in this half an hour of extreme volatility and joy on my part.  

My plug is let’s run our own Bitcoin derivatives on Tradelayer and build our own clients, run the transactions on the blockchain, run this on our own computers (get more RAM) and control our own assets in cold storage to process trades between each other using hotkeys. We can create bilateral liquidity channels where we are high-frequency trading with each other using the underlying signature feature of Bitcoin. I am just adding logic to things in the channel and in the trade logic layer. There is no order book.  This is ten times worse for Bitcoin.  On-chain order books are screwed for this – a trade channel would just put a higher block height expiration for its unsigned trades.  I am working on open source javascript and trade channels are very good for this.  It doesn’t propagate to Mars. Bitcoin Mars is going to be big – Elon Musk will be the CEO.  There is always going to be latency.  

C++ logic will become relevant to trading algorithms.  We can play this like it is an option. You can keep trading during this time regardless of volatility.  We might be paying a big spread or a large miner fee, but this is life.  This is my humble marketing structure to Bitcoin. We will have insurance funds of USDC in TradeLayer in order to make sure that we have liquidity regardless of what happens.  Bitmex takes everything instead of Fees, allegedly. Deribit had to chip in BTC during this event.  

We have black swan events across DeFi, and this won’t be the last one. DeFi has just exploded since we last talked. The ETH guys made a retail investor version of what you are talking about.  By creating a retail version, you can create something in a couple of clicks that has driven people to build in DeFi.  Yes, it is something that Bitcoin does need to catch up here. Synthetics is a Ponzi scheme.  I am Pat Dugan, and I am doing a decentralised derivatives structure without a banking system.

Can you create dollars through TradeLayer? Yes, this is simple with an Oracle to create USDC.  You will create a dollars with enough Bitcoin to create meta coin, what I would call DUDs, not Dugan dollars, but Digital US Dollars. We are trying to get some dollar issuers on TradeLayer. I want to talk about a company, Valiu – in Colombia, and they are going to have a dollar savings wallet where people in Latin America/South America can use. There will be no interest rates at first. I heard of this company, but they are doing it with Bitcoin. They are dollarizing it for transfer and then selling the hedge. The customer does not know that they are using Bitcoin.  Brave New Coin has an ETP tradeable on ETH and KYC – a proper investment product. They take your money, and they buy a basket of DeFi things, they buy this coin and hedge it so they get yield there. They are dealing with operational risk through their blockchain and staking yield.  It is a different kind of collateral. There is a very liquid derivatives market while you are in this bull market.  

When there is Deribit decentralised, I would like to get them on TradeLayer.  Are you going to release TradeLayer soon?  We raised some money, we got the KYC logic ready, and we have been working on this for two and half years, but we are hopeful of releasing oracles first and then a test net release to get some people trading on it.  We will be starting on LightCoin and then moving to BitCoin next.  Then we would like to do an options version too.  Everything is done in trade channels OTC.  These are going to be European style, and the ROI is a real thing in DeFi.  Cash settled European is fine.  I have made several design choices to make this as simple as possible.

The ultimate exchange trading product: short negative bond rates buy an interest rate floor, and you hedged the short principal. You take the proceeds and buy bitcoin and sell that with a derivative for positive yield. You make an index between two indexes.  Aren’t you scared by what has been happening in the RePo market of late? Giving them a business model to get their yield on these bonds?

What Hitler did, he went full MMT for Germany. That is why everyone loved him. What this means that they will never let the banks go bust.  I am reticent that they are going to be able to keep it under control.  I think the Fed has underwritten banks in America. The Euro-Dollar market is already getting weird.  What happens if we get a 20% increase in the dollar to the Euro?  I see that bailing out people in Europe.

Now people are going to have to cover their dollar holdings with currencies that are getting killed.  You would think Gold and Silver should be going up, but they are being sold out… all commodities, platinum, gold, silver, oil, palladium, etc.  Look at some of the currencies – they have all fallen apart in relation to the dollar.  This is a global dollar increase, and this is a dollar shortage.  They are just running the same playbook again and again.

If the trade of this decade is the dollar, the dollar index will top out in the near term.  And it is also the least bad place to put your money.  If we are going to see an additional 20% in the dollar over the next two to three years, there is going to be a huge movement of money into dollar-based assets.  The Fed and Trump will issue as much longer-dated debt as possible.

You will see credit risk, but it will be less than it is today. Patrick is not a big fan of DAI.  I have not launched yet and failed systemically considering I have not launched TradeLayer yet, so we will see what happens. The point is that everyone needs to do their due diligence and be safe; only invest what you can afford to lose.

It is possible that these stimulus checks could end up in BTC.  If 5% of Americans hold Bitcoin, they take $250 out of their $1,000 cheques which equates to $3.75 billion, and they invest this into BTC that could be more people in the market as a result.