_____________
Disclaimer: the following article is for educational purposes only and should not be viewed as financial advice. Bitcoin is a highly volatile financial asset and presents high risk to potential investors. You should seek guidance from your professional financial advisor before considering investing in Bitcoin or other cryptocurrencies. The author of this article owns a portfolio of Bitcoin and other cryptocurrencies.
______________
Bitcoin continues its obscenely unpredictable bull run towards the rapidly approaching, psychologically critical, and clickbait-worthy all-time high level of $20,000 USD. The historic high was set in the over-inflated, heady days of digital folklore back in the first cryptocurrency boom in December 2017.
Back then, retail FOMO (Fear of Missing Out) provided the necessary explosive kinetic energy to drive Bitcoin’s exceptional growth. This resulted in the most powerful selling signal of all in the professional investor’s arsenal of technical trading tools — uber drivers talking about Bitcoin.
The subsequent crash was as extensive as it was painful for those caught up in that FOMO. Retail investors were left suffering the seven stages of grief, while Professional investors starting accumulating Bitcoin once again. The retail FOMO was their exit — replaying the investor playbook once again to pinpoint perfection: buy low, sell high into retail FOMO. Roll forward to 2020 and the FOMO is repeating itself — but with a deeply ironic twist.
This time, the FOMO is from anonymous fund managers. Institutions and early adopting corporates are throwing out their well-worn strategy of buying low and selling high and, instead, trying to catch a bullet train that is accelerating with hyperbolic speed out of the station. So, what is going on? Why is the investor playbook being thrown out in favour of behaviour so reminiscent of rookie traders and naïve retail speculators?
Let’s first set the scene.
The above graph shows the levels of interest in social media in Bitcoin (the blue spikes), a proxy for retail FOMO. From early October 2017 social media interest began to spike violently, coinciding with the peak of the cryptocurrency bubble in late 2017. At this time, Initial Coin Offerings (ICO’s) were generating 10X returns in weeks, not years, and the price of Bitcoin surged as digital natives and beyond ravaged themselves on the dopamine hits from cryptocurrency’s golden goose laying its gold plated eggs. The subsequent two year bear market left a legacy of financial PTSD and decimated social media interest, which has broadly continued to this day, where the level of social media interest in Bitcoin has remained soft.
The latest data from Google trends confirms this trend. Searches for Bitcoin remain markedly lower compared to 2017.While searches are beginning to show early signs of rising, and will undoubtedly likely to spike once Bitcoin passes through the $20,000 social sound barrier.
Where this is particularly noteworthy is that on October 1st, 2020 it was possible to buy Bitcoin for just over $10,600 USD. In the subsequent 8 weeks, there was an 80% surge in price, yet Social Media interest remained subdued. The Professional traders and “OG” investors (the “Old Guard” of the cryptocurrency space) had been viewing the markets with fine-tuned muscle memory.
Their collective index fingers were poised on the “sell” button, nerves frayed with a sense of Deja Vue. Professionals were torn between owning an asset with an ever-diminishing trajectory of supply, not catching the likely parabolic price action associated with a fast paced, frenetic, price blow-off that so often accompanies the final stages of a hyper-bull market, and not wanting to get caught holding highly priced Bitcoin. The problem is the charts had been shouting “sell” at them for weeks, in the language of chart technical analysis that was pointing to an imminent and marked correction — especially when using a ubiquitous trading indicator called The Relative Strength Index (RSI).
_______________
Technical Trading tip — The Relative Strength Index (RSI)
Combining technical trading indicators based on charts, are always an important feature of judging entry and exit points for professional investors buying any financial assets — be they equities, commodities or Bitcoin. Perhaps one of the most recognised and easiest to understand of these trading signals is the Relative Strength Index (RSI) — the yellow line in the image below.
The beauty of the signal, through all its nuances, is its relative simplicity:
- If the RSI signal is above 70 — the upper dashed line — the financial asset is traditionally considered “overbought”, i.e. too many people have been buying and that is the time to consider taking profits, i.e. to sell. A falling price is the likely outcome.
- If the RSI signal is below 30 — the lower dashed line — the financial asset is traditionally considered “oversold” — i.e. too many people have been selling and it is time to consider buying. A rising price is the likely outcome.
_______________
The RSI enables professionals to act on Warren Buffet’s infamous psychology:
“Be fearful when others are greedy, and greedy when others are fearful”
The challenge is that the fear on the current agenda — the Institutional Fear of Missing Out. Suffice to say the RSI signal image above comes from the daily chart of Bitcoin and shows the “RSI” was overbought for almost 6 weeks — yet the price continued to rise unabated.
Every synapse of the rational professional brain said “Sell” based on not only the RSI, but other well-worn indicators that appear to have worn out their welcome in the dynamic and volatile cryptocurrency markets.
Given professionals use the same indicators globally, the collective consciousness to sell had been building steadily. But in the Bitcoin markets the mentality of professionals is to “expect the unexpected”. Professional investors and traders have almost thrown out the rulebook, instead relying on the innate instincts of profit protection in the middle of a hyper-bull market that says hold and move up protective stops (the price at which their Bitcoin would automatically sell if there were a major and fast correction) to ensure profits are maintained and focus on the current price action.
So, what is driving this dysfunctional Institutional behaviour in the Bitcoin market?
There are 4 core drivers behind the extremes of the demand/supply narrative:
- Major early-adopting organisations and international high profile investors outside of the cryptocurrency bubble are investing in Bitcoin.
- The Bitcoin market is small and has limited regulated options.
- The number of Bitcoin available to buy is shrinking by the day.
- The landscape of global financial markets is precariously teetering on a delicate precipice propped up by global economic stimuli and Central Bankers, resulting in the ever increasing dialogue of financial reset, digital finance and Central Bank Digital Currencies.
Let’s break these down further:
i) Early-adopting institutions and high profile international investors.
No-one wants to go to a party when no-one is there. In the ICO boom of 2016–2017, most early investors were initially technology-savvy retail investors. They were supported by the more entrepreneurial family offices and early-adopting cryptocurrency-based funds. Very few traditional Institutional investors were involved. Bitcoin and others have proven themselves over the last 3 years, mostly in bear market conditions.
In the past few weeks, however, there have been remarkable confirmations of high-profile and significant purchases of Bitcoin beginning to create a self-reinforcing cycle of FOMO:
- Micro Strategy (NASDAQ: MSTR) confirmed in mid-September they had increased their Bitcoin holdings to $425m, with the expectation they are likely to acquire more. (As of the date of final editing this piece Micro Strategy had just announced their intention to issue c$400m of corporate bonds to buy more Bitcoin — Citigroup downgraded their stock to “sell”).
- Square (NYSE: SQ) the fintech giant, run by Jack Dorsey of Twitter, acquired $50m of Bitcoin in early October.
- Paypal announced in mid-October they would enable their customers (277m) to buy and hold Bitcoin.
- In mid-November — Grayscale Bitcoin Trust (OTCMKTS: GBTC) bought a further $325m of Bitcoin to add to their Bitcoin portfolio of close to $10bn
- November 18, Ricardo Salinas Pliego Mexico’s second richest man announced he had 10% of his liquid assets in Bitcoin.
- The Guggenheim Macro Opportunities fund (c$5bn in total) announced in an SEC filing (27 November) its intention to consider Bitcoin opportunities up to $530m (up to 10% of their fund)
These purchases are just the tip of a very deep financial iceberg — a very powerful and fully auditable iceberg.
The Bitcoin market is unique amongst so many investment asset classes through its transparency made easier by Bitcoin’s infrastructure. Bitcoin is not owned by any individual, corporation or institution. Instead, it is based around powerful cryptography, open source computer code, that anyone can view, and a community of global computers supporting the production (mining) and management of Bitcoin.
In principal at least, with enough computing power, anyone can mine Bitcoin. Bitcoin is owned by no-one and yet owned by everyone –through the powerful strength of decentralisation. In essence, it is digital money that cannot be censored or altered and is transparent.
By virtue of the technical and community structure of the Bitcoin network, anyone with an internet connection can view every single transaction on the Bitcoin network since its inception in 2009. Just type in a Bitcoin address or a transaction reference and you can follow the trail of every Bitcoin transaction. While you won’t be able to see who specifically owns an individual Bitcoin address directly anyone with the time, energy and motivation can see where Bitcoin movements have occurred. Through the use of big data analysis and common sense large Bitcoin movements leave digital footprints — e.g. movements of Bitcoin on to cryptocurrency exchanges can indicate underlying selling pressure building. This presents an unparalleled level of data transparency. The power of this transparency should not be overlooked.
Investors and institutions have an open window to see the underlying market conditions and dynamics. This enables anyone to see precisely what is happening on the Bitcoin network. This auditable transparency is available to all that want to spend the time researching the market to understand its ebbs and flows. Could this be said for other similar markets, like gold or silver? Institutions can now, in theory at least, openly show their investing clients the market dynamics based on digital data from a decentralised open-source data pool that cannot be altered retrospectively and can be viewed in real-time. While the decentralised nature of Bitcoin presents a great strength — it is also its Achilles heel. If no-one owns the Bitcoin network — who do you sue if things go wrong?
ii) The Bitcoin market is small and has limited regulated options
The Bitcoin market is worth around $350bn USD. The gold market by comparison is almost 30 times bigger (estimated by The Perth Mint at $9.5 tr USD). Institutional fund managers need large markets to deploy substantial sums of capital — e.g. all our respective pensions. One institutional fund manager told me in a podcast interview almost two years ago
“The Bitcoin market is like a pimple on a Rhino’s backside…”
In other words, the market is not big enough for large Institutions to invest in… (yet). Global regulators also remain very cautious about the market since its inception in 2009, with the Bitcoin market and beyond being plagued with a variety of regulatory challenges.
Bitcoin is based around Blockchain technology. The broader technology market has adopted this core technology, taking it to new levels, evolving to satisfy different market needs. The challenge is that whenever there is new technology, there are bad actors always willing to exploit it. In the early years, the Bitcoin market was subject to many scams and hacks. Most often, these were cryptocurrency exchange hacks (e.g. Mount Gox in 2014) and the “phishing attacks” of individuals to give up the private keys that unlock their Bitcoin wallets. These initial problems became worse as the technology evolved beyond the very basic nature of Bitcoin and extended to include the programmability of funds.
This programmability of funds helped to drive the $24bn Initial Coin Offering (ICO) boom of 2016–2017, leading to new models of raising funds through “tokenisation”. New start teams crowdfunded projects by pre-selling the tokens that powered the blockchain networks they were developing. These tokens were (and continue to be) exchangeable on cryptocurrency exchanges for Bitcoin. There is a delicate balance between allowing new technical innovation that defines a new financial environment, and the exploitation of unsophisticated investors.
In numerous cases, global regulators had to step in as many ICO’s breached existing, established, financial regulations. Their actions ranged from stopping the finance raises in their tracks, imposing substantial fines and even threatening prison terms. Equally, regulators have expressed concerns over the limited availability of Bitcoin.
Limited availability of Bitcoin globally means limited liquidity in markets, which can lead to market manipulation. Larger holders of Bitcoin, called “whales”, can (and do) easily move markets by pumping and dumping Bitcoin — playing with the key investment emotions of retail investors — fear and greed. Increased Institutional involvement in the market is likely to lead to less manipulation — but regulators face the catch-22 of timing for their seal of approval for Bitcoin-related financial products.
The preferred methodology generally deployed is through Exchange Trade Funds (ETF’s). This is a simple and legally compliant way to invest or trade in an underlying asset’s price — e.g. the price of Bitcoin. This dispenses with investors having to worry about the fragility, complexity and security concerns of direct Bitcoin ownership. Since 2013, however, the US Securities and Exchange Commission (SEC) in the US has repeatedly rejected ETF applications — the highest profile being the Winklevoss brothers, of Facebook lawsuit infamy, and creators of the Gemini cryptocurrency exchange. Indeed, the world’s first listed Bitcoin ETF was only launched in September 2020 — but on a minor global exchange — the Bermuda Stock Exchange. This is undoubtedly a sign of things to come and in the future may represent the tipping point for many larger potential investors. While not wishing to get knee-deep into the legal nuances, there is one significant player in the regulated market, for sophisticated investors only, that continues its explosive growth trajectory.
The Grayscale Bitcoin Trust — (OTCMKTS: GBTC) was originally set up as a private placement vehicle to accredited investors to get exposure to Bitcoin in 2013. The trust subsequently received approval for eligible shares to trade publicly — through the OTCQX — (the over the counter equity trading of stocks). GBTC now holds in excess of $10bn of Bitcoin. Given the lack of regulated financial products on the market, it now, perhaps, shines a light as to why the GBTC added a further $325m to their holdings in mid-November 2020, despite the heavily “overbought” conditions, detailed above.
The key upshot is that there is a massive global institutional race on to establish regulated structures that will enable larger Institutions to invest in Bitcoin and other cryptocurrency structures. The stakes of this race, however, are raised to dizzy new heights as the supply of Bitcoin is decreasing at an alarming rate.
iii) The shortages of Bitcoin
- 88% of all the Bitcoins to be produced have already been mined and are in circulation.
- Almost 20% of existing Bitcoin have already been lost or are no longer accessible
- The number of Bitcoin for sale on exchanges is falling
- Large holders of Bitcoin are adding to their holdings and not selling.
- The meteoric rise of Decentralised finance (Defi) is creating new financial structures that provide incentives to hold Bitcoin on a longer-term basis.
a) 88% of all Bitcoin produced have already been mined.
I would suggest anyone, who has not already done so, to read the original 9 page Bitcoin whitepaper — its nine pages in total with one of deep mathematics. By virtue of the way Bitcoin was designed with open source code available for all to view:
- Only 21m Bitcoin will ever be produced with the last Bitcoin mined in 2140
- Every four years the number of Bitcoin that will be produced by the Bitcoin network through “mining” Bitcoin is halved.
The upshot of this means that :
- 18.5m Bitcoin have already been mined since Bitcoin’s launch in January 2009 — that’s around 88% of all Bitcoin. This means over the next 120 years only 2.6m Bitcoin are left to be mined.
- From July 2020, the number of Bitcoin available to be mined daily has halved to 900 Bitcoin per day — which will halve again in 4 years to 450 Bitcoin per day.
In addition, as reported by Fortune magazine through an analysis by Chainanalysis carried out in 2017, around 3.7m Bitcoin are either lost or inaccessible (usually through lost private keys).
In total this leaves around 14.7m Bitcoin in circulation — but where are they?
In order to sell Bitcoin, they need to be sent to an exchange or to off-market traders (Over the Counter (OTC) dealers). The analysis from Santiment above shows how prior to the universal crash in financial assets in March 2020, the volume of Bitcoin on exchanges had fallen from a peak of 6.3% in February 2020 of the total supply to around 3.8% at the end of November. This would suggest more and more parties are holding on to their Bitcoin rather than offering them up for sale.
It is also noteworthy how the profile of Bitcoin holders is also changing.
There has been a steady rise in the percentage of larger holders of Bitcoin, which has risen to around 28% of Bitcoin holders, which suggests major accumulation has been going on for some time, especially since December 2018, in the midst of the historic bear market.
c) The rising boom in Decentralised Finance (DeFi)
PLEASE NOTE : DeFi is in its very early stages of development and is very risk. There are risks, known and unknown, that could result in a serious loss of your capital.
Mid-2020 has seen a marked rise in DeFi Applications. Without wishing to get too much into the technical detail of Defi, which is a vast subject in its own right, these are financial applications that have no centralised body such as a bank to administer financial and money market operations. Instead, they rely on audited computer code in smart contracts to administer financial applications automatically. DeFi, as it continues to develop, enables differing blockchains to talk to each other within financial applications, primarily using the Ethereum network.
The Ethereum network first facilitated the creation of smart contract layers — where money could be programmed. This programmability with a uniformly recognised standard, the ERC20 token was the precursor to the boom of 2016–2017. The ERC20 standard enables different tokens to “talk” to each other and to be able to be exchanged quickly and easily. So how does this affect the Bitcoin market?
Historically, there have been very strong partisan feelings between both Bitcoin and Ethereum. Both sides, believed their blockchain was the best and no-one else’s came close. As a result, the two blockchains underpinning each cryptocurrency did not talk to each other. That is changing.
The ERC20 token standard is now being used to “wrap” Bitcoin, where Bitcoin are being tokenised in the form of an Ethereum-based ERC 20 token, enabling Bitcoin to now “talk” to the Ethereum ecosystem and to enable Bitcoin holders to take advantage of the DeFi boom. The bottom line is that investors can now “wrap” their Bitcoin generate income from just holding Bitcoin and providing liquidity in the Defi Ecosystem that, in turn, secures their safety via automated smart contracts supported by cross collateralisation and low Loan-to-Value ratios.
The allure of secondary revenue streams to support holding Bitcoin has been very strong. So much so that latest data from Defi Pulse shows that the value of Bitcoin locked with WBTC has risen to $2.5bn.
While the rising price of Bitcoin has helped increase the value locked in WBTC, crucially, Bitcoin is being taken out of circulation, resulting in less being available for sale, as there is now a financial incentive to hold on to Bitcoin.
The whole Defi space is moving at laser-fast speed as the building blocks of the ecosystem continue to evolve. With so many parties now holding on to their Bitcoin we should expect to see the volume of Bitcoin entering the Defi space increasing.
d) The macro landscape of the digitisation of money
Finally, the economic fallout from the pandemic has driven a massive spike in digitisation in general and the digitisation of money in particular. 2020 has been a tough year with the pandemic having had so many unforeseen economic and financial consequences. The challenges within the global financial markets have seen government economic stimuli, the printing of money and Central Banks supporting debt and even equity markets to avoid a repeat of the 2008 Global Financial Crisis. Indeed, high profile organisations such as the IMF and the World Economic forum are talking about a great financial reset. Equally, over the past five years or so, 70 or so countries have been actively exploring Central Bank Digital Currencies (CBDC’s).
CBDC’s represent digital cash that can be programmed. They take the core essence of cryptocurrencies and programme them according to economic, and even political, agendas. Central Banks could, for example:
- allocate funds to different demographics or market sectors,
- charge different interest rates to different targeted parties — e.g. baby boomers cold have negative interest rates linked to savings to stimulate them to explore buying assets or to spend their money.
- take taxes out of individuals’ pay directly
- pay government employees directly without going through commercial banks
CBDC’s is a vast subject area and fraught with conflict. Suffice to say, the digitisation of finance is currently in the DNA of central bankers and global governments with its pace accelerating. Indeed, it is likely CBDC’s will represent the foundation of any great financial reset.
Conclusions
From all of the above, the underlying landscape for Institutions is one where :
- there is a marked shortage of Bitcoin on the market that is likely to get worse.
- Bitcoin has proven itself over 10 years in existence as an investment class as it edges ever closer to the $20,000 psychological sound barrier.
- Bitcoin market regulation is just beginning to take shape representing a gateway for oceans of institutional funds to enter the space.
- Bitcoin is a proxy for the exploding digitisation of finance — Finance 2.0.
But there is one final take-away to contemplate. If the Bitcoin market were to get to the same size as gold ($9.5tr) given there are a maximum of 21m Bitcoin ever to be produced (excluding lost Bitcoin), each Bitcoin would represent $452,381 in value. So, undoubtedly, while the Institutional FOMO at first sight may appear to be naïve and represent rookie buying, it represents part of a much longer-term investment playbook. The short-term institutional FOMO is a small price for Institutions to pay to accumulate large enough volumes of Bitcoin in preparation to capitalise on this potentially explosive growth in the future.
So, perhaps, it’s the current price of $20,000 that represents the pimple on a Rhino’s backside and that the Institutions investment playbook is being played fully, and on steroids, on the basis of what is to come.
What are your thoughts? How do you see Institutions reacting? How bad do you think the FOMO is?
About the author
Tim Lea is author of the book Down the RabbitHole, a book on the blockchain in plain English, an international keynote speaker on the strategic application of the blockchain, and an investor in the cryptocurrency space. He is also founder of Fractonium a fractional funding platform that will be launching their Empowerment labs in early 2021 to enable Corporates and investors understand the threats and opportunities associated with the transformation to digital finance and the upcoming financial reset.
