Key metric flashes low for crypto
Cryptocurrencies fell in 2022.
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Bitcoin could be on the verge of outsized gains if recent technical signals are to be believed.
Investors have been looking for a bottom for bitcoin since the cryptocurrency lost more than 60% of its value from the all-time high of nearly $69,000 it hit in November. Nearly $2 trillion has been wiped from the entire crypto market in recent months.
A metric of bitcoin miner activity could give investors a clue as to where the digital currency is headed.
Miners validate transactions on the bitcoin network using highly specialized, power-hungry computers to solve complex mathematical puzzles. They are rewarded in bitcoin for their efforts. As more bitcoins are mined, solving these puzzles becomes more difficult.
During market crashes, a depressed bitcoin price can prevent many miners from continuing their activities. They then sell bitcoin to keep themselves afloat. But they are also turning off their mining rigs to save money.
This happened during the last market crisis and can be demonstrated by the “hash rate”, a measure of the computing power used to mine bitcoin. Since mid-May when the market really started to sell off, the 30-day average hash rate (a monthly average value) has dropped over 7% and at one point it dropped 10%. This indicated that the miners were turning off their machines.
The hash rate, studied in a variety of ways, is used by crypto investors to try to determine when the market might be bottoming, as capitulation and a miner jolt are often associated with the late phase of a bitcoin cycle.
“Historically speaking, mining market capitulation has tended to correlate strongly with overall market lows,” Matthew Kimmell, digital asset analyst at CoinShares, told CNBC via email.
Hash rate and buy signal
In the aftermath, Charles Edwards, founder of quantitative crypto fund Capriole Investments, came up with the idea of ”hash tapes” in 2019 to identify opportunities to buy bitcoin.
When the 30-day moving average of the hash rate drops below the 60-day moving average, it is called a bearish crossover and signals that miners are shutting down the machines. Usually the sale is associated with these events. As more and more miners are taken out of the market, the difficulty of mining bitcoin decreases because there is less competition.
Due to reduced competition, more miners could re-enter the market and a recovery could occur.
“These ‘surrenders’ are painful events for miners within the ecosystem,” Edwards told CNBC.
But using Edwards’ method, when the 30-day moving average for the hash rate crosses back above the 60-day moving average, the worst of the miners’ sellout tends to be over.
When this happens with bitcoin’s 10-day moving average price rising above the 20-day moving average price, that’s when a “buy signal” flashes, according to Edwards.
He said those crossings happened on Saturday.
In the past, buying bitcoin at these points would have yielded good returns depending on how long you’ve held the cryptocurrency, according to Edwards.
For example, buying bitcoin at the August 2016 buy signal would have given an investor a return of over 3,000% if held at the December 2018 high, when bitcoin hit a new all-time high. .
More recently, buying on the recent buy signal in August 2021 would have yielded a return of over 50% if bitcoin had sold off at the November 2021 all-time high.
“I created Hash Ribbons in 2019 to identify when a major Bitcoin mining capitulation has occurred, because once the recovery picks up after these events, they usually mark major price lows. bitcoin,” Edwards said. “Historically, these are great times to allocate to Bitcoin, with incredible returns.”
CoinShares’ Kimmell said the logic behind the buy signal is that if bitcoin price “trends to consistently top the hashrate before a period of strong price growth, then a trend bounce in the hashrate,” marked by the average 30-day moving average for the hash rate crossing above the 60-day moving average, it “may mean that the bitcoin price rebound has already started.”
“I find that this metric should not be used solely to make an investment decision, but can certainly be useful if combined with a range of other qualitative metrics and evidence,” he added.
CoinShares has put together a chart to show the correlation between the hash rate and the price of bitcoin. And it’s divided into areas where there’s a “gold rush” as the price of bitcoin rises, and a stock crash and miner debacle as the price falls.
In a chart provided to CNBC, CoinShares suggests that the market is currently in the crisis period that usually precedes rebalancing and a price rally. Right now, according to the chart, the bitcoin price line is below the hash rate.
The chart shows the movement of the bitcoin hash rate against the bitcoin price at different stages of the cycle.
But it could signal that a bottom is near, according to Kimmell.
“It is impossible to say whether we have reached full capitulation, but there is evidence that we are in the phase of the mining cycle where capitulation most often occurs. Second, if previous cycles have predictive power, then yes, bitcoin price regularly exceeds the hashrate likely precede a period of strong price growth,” Kimmell said.
Vijay Ayyar, Vice President of Corporate and International Development at Crypto Exchange Luno, has a similar view.
“I think we’ve seen broad signs of capitulation given the events of the previous months. So it’s likely that we could have the start of a bottom forming. Usually bitcoin consolidates in a range for a anything that indicates a buildup, which we can see,” Ayyar told CNBC via text message.
Bitcoin has been trading in a tight range around $18,000-$25,000 since mid-June.
However, there are risks that these indicators will not turn out as positive as they have in the past due to the broader macroeconomic environment.
The current global economy is in a very different state than previous cryptocurrency cycles. There is rampant inflation and rising interest rates globally, aspects that did not exist before.
Risky assets such as US stocks, and in particular the Nasdaq, to which bitcoin is closely correlated, have seen strong selling this year.
“Of course, this is all still based on historical similarity, and we’re in a different macro environment,” Ayyar said.
“The major risk remains the economy and inflation, but even then we are closer to peak inflation than not, and so it also shows that on risk assets we are closer to peak inflation. ‘a hollow than not.’