Bitcoin Price Volatility Symptom Of Liquidity
In March 2020, major stock indexes experienced some of the worst price collapses in decades, as markets grapple with the realities of the COVID-19 pandemic. Bitcoin was no exception to these economic tensions. After trading as high as $ 10,000 in mid-February 2020, the price of bitcoin collapsed to less than $ 4,000 in mid-March, including a 30% drop in one day.
Fear has caused a flight of funds in everything from domestic traders to international traders, from large-cap assets to small-cap assets, from gold to bitcoin. The markets have fallen, and so has bitcoin.
It was clear that in the face of market shocks, bitcoin’s unique attributes, as discussed below, could make it more vulnerable to price slumps compared to other asset classes:
- 24/7/365 negotiation
- Offer a final and global settlement in minutes
- Liquidity management on all major currency pairs
- Lack of a central authority, which can restrict or influence business behavior
These attributes are unprecedented among asset classes and help justify bitcoin being considered the most liquid active in the world.
How many assets can offer a final settlement, over billions of dollars, in minutes, anytime, any day, anywhere?
Although other asset classes have larger market capitalizations and higher daily trading volumes, their limitations in terms of trading hours, public holidays, and “blackouts” are becoming evident now that a alternative exists. Liquidity is no longer limited to opening hours.
Bitcoin’s price volatility is not a matter of faith, but of liquidity
In a globally interconnected world where market information travels in seconds rather than days, being able to reposition yourself regardless of time or location is a significant advantage.
As bitcoin continues to grow, portfolio managers will increasingly view their asset allocations along the axis of those limited by legacy constraints (trading hours, holidays, circuit breakers, political decisions, etc.) and those that are not constrained. In times of crisis, when liquidity is needed immediately, it is valuable to have a portfolio allocation without constraint in its liquidity.
Bitcoin’s emerging status as the world’s most liquid asset has implications.
As the popular adoption of bitcoin continues at a rapid pace and companies begin to put it on their balance sheets, there is an increasing area for bitcoin to buy and sell at all times. When liquidity is urgently needed to cover short-term liabilities, bitcoin will increasingly be available as the first option to provide liquidity. Bitcoin could offer a lifeline of cash in worst-case scenarios.
This type of crisis selling is not necessarily tied to a strategic interest or a desire to exit bitcoin, but may simply occur due to the fact that bitcoin is the most liquid asset, thus providing a leak without pressure to cash when you need it most. It goes without saying that retail panic selling or ambitious traders looking to sell high and buy low can also contribute to a rapid decline in bitcoin prices.
Fidelity Digital Asset’s 2020 “Bitcoin Investment Thesis” pointed out that bitcoin was largely uncorrelated with a variety of other asset classes. His report showed that between January 2015 and September 2020, bitcoin had a correlation of 0.11 with other assets on a 30-day moving average (1.00 being fully correlated and -1.00 being completely negatively correlated. ).
However, just being uncorrelated with a range of asset classes doesn’t mean bitcoin won’t move with the rest of the market in the near term.
When “circuit breakers” were tripped amid massive sell-offs on March 12, 2020, bitcoin continued to trade. When the markets were closed on the weekend of March 13-14, 2020, bitcoin continued trading. Whatever the next economic crisis, bitcoin will continue to trade.
In this regard, bitcoin’s status as the most liquid asset offers potential for downside.
A future crisis such as a national emergency, unexpected bankruptcy, or a government policy announcement could see price ramifications in bitcoin ahead of other asset classes, especially if it occurs outside of business hours. .
Bitcoin’s status as a long-term appreciating asset class means little in short-term liquidity crises. Gold’s long history as a safe haven asset hasn’t stopped it from selling out amid the COVID-19 crisis. Covering short-term losses may override a long-term desire for HODL.
Bitcoin as a global economic barometer
In this sense, bitcoin could be considered a global economic barometer. As more and more people and institutions hold bitcoins, the overall perception of market conditions will increasingly be chained. There will be no need to wait for the opening bell to find out what the market thinks of the latest news, as the first gauge of the market will be bitcoin.
With markets at record highs and concerns about bubbles, the price of bitcoin should be seen as precarious, not because of internal dynamics within bitcoin, but because of the increased number of people and businesses that possess it and their potential for sudden need for cash.
The continued appreciation in the price of bitcoin in fiduciary terms will almost certainly be interrupted by sporadic, albeit temporary, price collapses. Bitcoin’s narrative as the world’s most liquid asset will increase with its increased adoption and market capitalization, but with that narrative comes the potential for increased volatility.
With unprecedented liquidity comes the potential for downside in the short term.
This is a guest article by Matthew Pettigrew. The opinions expressed are entirely their own and do not necessarily reflect those of BTC Inc or Bitcoin Magazine.