Short liquidations contradict negative funding rates in perpetual futures

The open interest-weighted funding rate for Bitcoin perpetual futures turned negative in the past 24 hours. A negative funding rate usually signals bearish sentiment in the futures market, but the majority of liquidations seen in the past day were shorts, which typically follow a price increase.

This apparent contradiction starts making sense when looking at how the market behaved in the past week. The funding rate in perpetual futures contracts ensures that the contract price aligns with the spot price by facilitating periodic payments between long and short position holders.

A negative funding rate, as observed on March 25 and March 26, means shorts are paying longs, suggesting that the contract price is below the spot price — a hallmark of bearish sentiment where traders anticipate a price decline. On March 25, the funding rate dropped to -0.040%, and it remained at this level throughout March 26, according to data from CoinGlass.

However, liquidation data tells a different story. Over a one-hour period, short liquidations totaled $14.19 million compared to just $671,540 for longs, and over four hours, shorts saw $23.50 million in liquidations against $2.28 million for longs. Short liquidations occur when the price rises, forcing short traders to buy back contracts at higher prices to cover their positions, often amplifying the upward movement.

How can a negative funding rate, indicative of bearish sentiment, align with predominantly short liquidations, which suggest a price rally? To answer this, we turn to Bitcoin’s spot price in the past week.

On March 20, Bitcoin closed at $84,175.02. The price dipped slightly to $84,053.96 on March 21 and further to $83,843.18 on March 22, but it began a steady climb thereafter, reaching $86,142.15 on March 23 and $87,512.12 on March 24.

This upward trend, a roughly 4% gain from March 20 to March 24, was accompanied by a positive funding rate, peaking at 0.050% on March 24. A positive funding rate, where longs pay shorts, reflects a contract price above the spot price, consistent with the bullish price movement and suggesting that traders were willing to pay a premium to hold long positions.

The turning point came on March 25. Bitcoin opened at $87,515.76, slightly above the previous day’s close, and reached a high of $88,564.14, continuing the upward momentum. However, the price pulled back to close at $87,424.41, a modest decline of $87.71 from March 24.

On March 26, the price opened at $87,488.28, dipped to a low of $87,075.71, but rallied to close at $88,016.46 — a gain of $592.05 from the previous day’s close. This price action confirms the occurrence of a rally — albeit with some consolidation — that would have triggered the significant short liquidations observed. This means that short traders, betting on a price decline, were caught off guard by the upward movement, leading to a short squeeze where they were forced to buy back contracts at higher prices.

However, the negative funding rate on these days suggests that the futures market, on average, remained bearish. The funding rate is calculated over a fixed period, often every eight hours, based on the average difference between the contract and spot prices. While the intraday price spikes on March 25 and March 26 drove short liquidations, the average contract price over the funding periods was likely below the spot price, reflecting a broader expectation of a price correction. This expectation may have been fueled by the price increase in the past week, which could have led traders to see the market as overbought as the price rallied.

On March 25, Bitcoin’s price ranged from a low of $86,322.37 to a high of $88,564.14 — a $2,241.77 swing. This volatility likely contributed to the disconnect between the funding rate and liquidations. The short liquidations were a reaction to the intraday rally, particularly the push toward $88,564.14. However, the subsequent pullback to $87,424.41 on March 25 and the dip to $87,075.71 on March 26 may have dragged the average contract price below the spot price, resulting in a negative funding rate.

This illustrates the timing mismatch between funding rate calculations and real-time market movements. While liquidations occur instantly in response to price changes, the funding rate reflects a longer-term average, capturing the prevailing sentiment over the funding period.

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