Users Should Avoid Trading on Kraken at all Costs (Pt. 2)


6 min read
Users Should Avoid Trading on Kraken at all Costs (Pt. 2)

Under normal circumstances, an exchange that has stood the test of time in the crypto sphere for as long as Kraken should be more than worthy of the benefit of the doubt when there is wild fluctuation in a market similar to what we observed toward the beginning of this piece on September 14th, 2019:

However, Kraken, in specific, warrants greater scrutiny and skepticism because this is far from the first time that we have seen an instance where it appears there has been a ‘flash crash’ or market manipulation of some sort impacting the price (in a way that diverges substantially from the rest of the major exchanges on the market; i.e., cannot be explained by ‘arbitrage’).

To emphasize this point, we’re going to cover some of the more prominent instances of ‘flash crashes’ on Kraken’s exchange by working backward from the September 14th, 2019 incident that we covered above.

Since there have been so many incidents on Kraken’s exchange, there is a solid chance that we will miss at least one incident. Thus, the numbers below merely represent the order of the numbered items in  this specific article, and should not be considered to be a  complete  or holistic list of every ‘flash crash’ incident in Kraken exchange’s history.

Quick Review: What is a ‘Flash Crash’?

For those that do not know, a ‘flash crash’ (in this context) refers to an instance where the price of an asset (cryptocurrency) drops several percentage points in value, almost spontaneously, on a given exchange in a way that does not reflect the market’s valuation of said project at the time of the incident.

Example:

At the time of writing, Bitcoin is trading for approximately $10,200. If the price of Bitcoin were to drop significantly (i.e., to $6,000) for no explicable reason and this drop  only occurred  on Binance and no other markets (i.e., the price of Bitcoin remains at $10,200 on all other markets), then that would be considered a ‘flash crash’.

In terms of the spontaneity of the event, think of it as being similar to a ‘flash mob’ (referring to the trend that was popular like 2–3 years ago where crowds of people would break out in a synchronized, pre-planned dance in public at random), except instead of people dancing, the price is plummeting several dozen percentage points — causing liquidations, panic, and extraordinary, yet unnecessary losses.

Kraken ‘Flash Crash’ Event Log

Kraken Flash Crash #1 — June 2nd, 2019 [Bitcoin Market; BTC/CAD]

Long time crypto community member, Nick Cote, pointed out a ‘flash crash’ in the BTC/CAD (Canadian Dollars) where the price of BTC/USD crashed down from approximately $11,500  CAD to just $100  CAD ($75  USD).

[source = https://twitter.com/mBTCPizpie/status/1135183402523475969]

Below is the picture of the BTC/CAD markets from the tweet:

This fluctuation in price represents a depreciation of -99%.

Explanation:

Crypto publications and community members abound attempted to come up with rational explanations for the ‘flash crash’ on Kraken’s markets with theories ranging from a ‘rogue hacker’ to ‘exchange error’.

Among all of the possibilities, the theory of a ‘rogue hacker’ that compromised a large account(s) via API,  first put forth by an individual on Twitter going by the pseudonym, ‘Beetcoin’, seems to be the most popular theory to date (pictured below):

The theory appears to be somewhat corroborated by a pasted image of Kraken’s order book, showing a sell order for 1,155 bitcoins at the absurdly low price of $101 CAD/Bitcoin (-99% below market value at the time).

(*source: https://twitter.com/Beetcoin/status/1135250264607383553)

At fair market value, these 1,155 bitcoins would have been worth $10 million USD. Instead, they were sold for approximately $87,000  USD ($115k  CAD) instead.

It does seem miraculous that any individual would mistakenly sell $10 million USD worth of bitcoins for $101 CAD.

Some Other Aspects of the Situation That Are Questionable:

The idea that there exists a trader that decided to store $10 million worth of Bitcoins on a 3rd-party exchange (Kraken or elsewhere), regardless of reputation. Given the propensity for crypto exchanges to be compromised/hacked/raided/exit scam/etc., 99%+ of individuals would more than likely seek their own personal means of storing cryptocurrency vs. an exchange. This is especially true when considering that exchanges do not have tiered security procedures for various exchanges given their hot wallet / cold wallet structure; so a user whose account holds a balance of $5 million+ would not be given any greater security precautions than a user whose balance is only $50 USD.

As many commenters/observers mentioned, there isn’t much liquidity in the BTC/CAD markets to begin with, so the chances that a trader would initiate a trade where they’re attempting to sell 1,155+ bitcoins (more volume than what the entire market produces in a given day, total), is even  more questionable.

Even if the markets were extremely robust and liquid, the chances of any savvy trader (which one would imagine an individual with $10+ million worth of bitcoins would be) selling 1,100+ bitcoins at one price is extremely unlikely. The chances of  slippage  are astronomical at that price, resulting in an entirely preventable loss of tens of thousands of dollars.

Given the information presented by the Twitter user, ‘Beetcoin’, they are more than likely right in their supposition that some sort of foul play (i.e., a ‘hack’) took place.

As to how the account was compromised and whose fault it was, remains to be seen.

Potential Solutions That Kraken Could Have Employed By This Point

Kraken could follow the lead of other exchanges and simply implement ‘trade controls’ which prevent users from placing bids/sell orders that deviate more than X% (i.e., +/- 20%) from the asset’s market price at the time the order is placed.

Kraken could restrict traders from placing ‘asks’ (sell orders) that would account for more than X% of the market’s total traded volume in a given 24-hour period. This would have the added impact of not only helping to prevent situations like what occurred in the BTC/CAD markets, it would also curb wash trading to a certain extent as well, which would further reduce volumes on certain markets, resulting in an even greater restriction of excessive trade volume from one or more affiliated parties (which Kraken allows despite its ‘rule book’ stating otherwise).

Kraken could follow the path of the Dow Jones/NASDAQ/CBOE/CME/other institutional markets and simply halt trading on a given market if there is an unforeseen aberration in the price that deviates more than X% from the market price over a given period of time (i.e., volatility in excess of +/- 20% over a 10-minute time span). Most institutional markets in the United States have had this policy in place for well over 30+ years at this point (following the ’87 crash due to algo trading bots). These ‘trading controls’ are referred to as ‘circuit breaker’ rules.

What Are ‘Circuit Breaker’ Rules in Markets?:

Source = https://www.investopedia.com/terms/c/circuitbreaker.asp

[Sidenote: ‘Circuit Breakers’  were literally invented as a means of preventing flash crashes on markets due to inexplicable reasons  (i.e.,  panic selling/bots going haywire/black swan events/etc.) ]

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