Bitcoin Correlations and Other Lies

BTC has been experiencing some interesting movements in the last weeks, more related to what happens outside the crypto market than with its fundamental metrics (on chain looks pretty good).

We’ve seen the impact on the price due to two major threats:

  • Fed monetary policy of interest rising to fight against inflation.
  • Impact on global chain production of the covid lockdown in China.

How do we know these are the two main reasons? 

Traders all over the world say that the correlation graph between BTC and Nasdaq is the key.  

We are at historical high with a correlation of 80%

Few weeks ago we were reporting here in our articles a correlation of 0.66 as an unusually high correlation.

Remember the correlation index goes from -1 (totally decorrelated) to 1 (totally correlated). That’s very bad news for BTC, because when investors create their portfolio they try to diversify. They search for non correlated assets, to cover market risks. This means that BTC is treated by many investors as a risky asset and they react to the same stimulus (war, FED, Covid, …).

Last month correlation between Nasdaq and BTC

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But that’s not how it used to be. There was a time back in 2020 where the correlation between both was close to 0. 

When did everything change? May 2020, covid crisis. Take a look at this graph:

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 Covid 19 crisis changed the crypto paradigm. We’ve never been so exposed to outside rain.

And that’s the long term correlation (6 months) if we look to the short term (1 month it’s even worse, at some points reaching 0.8 (or 80%).

Some traders are trying to take advantage of this correlation as BTC moves x2 (more volatility) you can put some shorts/longs for the movements. It’s risky, you should be able to predict the Nasdaq anyway.  But I want you to zoom out and try to see the bigger picture.

Why does the covid crisis change the paradigm?

The FED printed trillions of dollars to stimulate the economy to compensate for the lockdown. (FED printed 44% of the total amount of dollars in the past 2 years as we pointed out in our article here). A huge amount of this money went to tech stocks and crypto assets, and were classified as risky assets for the risk managers. 

The Market Cap. of BTC is 0.7Trilion (T)$, the whole crypto market is 1,8T. Nasdaq has a market cap. of 13T and SP it’s near 40T. This means that BTC is too small to be independent. Whatever happens to tech stock, it will affect us.

“There are three kinds of lies: lies, damned lies, and statistics.” Mark Twain

When we only see the correlation rate, it looks all the same, but it’s not. Let me give you another example. Take a look at the correlation between BTC and ETH:

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Incredible, in’t it? A risk manager could think thats too much correlation, I need to diversify to uncorrelated assets.  Whatever will happen to BTC will affect ETH. But they are not the same.

Correlation is not performance

But remember, correlation is just a percentage!! Let’s take a look at the values:

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Nasdaq performance since the covid stimulus began at may 2020, and has gone from 9k to 16.5k at his higher point (ATH) in Nov 2021 with a 83% result. After ATH, a -21% drop till now. 

In the same period, BTC did a 906% to his ATH (at the same date of Nov 2021). That means 10 times better performance than Nasdaq. From the ATH to now, a -44% drop, which leaves the total performance since the beginning at 468%, the same level of 10 times better performance than the Nasdaq. 

In other words, 1k$ invested 2020 in Nasdaq, BTC or ETH would give us following results:

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Let’s now take a look at the year-to-date graphical comparison:

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Since May of last year, Nasdaq has lost -3.84%, BTC -17.78% but ETH has gained 29.05%. That’s quite a difference, isn’t it?

It’s the volatility

Well, yes and no. This could be the second big lie. It’s true, BTC is more volatile, but we should take a look at a drawing. A drawing refers to how much an asset is down from the peak before it recovers back to the peak. Let’s compare BTC with some of the most famous tech assets:

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Conclusion: The BTC downdraws are similar to other tech assets, but not in bull runs!!

What to expect now?

  • BTC is the revolution of money, sooner or later it will rise as a store of value and we will see more correlation with GOLD (now there isn’t). GOLD is a 10T market cap asset, BTC has a long way to go to reach GOLD as it has some clear advantages as a store of value that market adoption is just starting to discover. 

ETH will have more correlation to Nasdaq as it represents the revolution of the financial system (DeFi). But not in absolute values, where we can expect a better performance.

BTC can easily beat Gold and ETH can beat Nasdaq in annual return.

  • There is a bill to pay. No one can print so much money without paying the price. We may see a recession that will affect all the economies/markets, especially those who have joined the benefits of the FED stimulus. 
  • A major crash in the market could affect BTC in the short term, but strengthen it in the long term, as most of the community are “hodlers” and it will become the alternative to a system led by reckless Ctrl + P dollar addicts.
  • The Fed’s 2% inflation target could be changed to 3% as inflation is the only way to reduce the debt crisis. This could give a positive boost to BTC in both the short and long term.

No one knows where we will be a year from now. We may be entering a dream time for cryptocurrencies. New black swans will appear, new users will join, and new institutions will adopt cryptocurrencies (this week, Fidelity investments, the third biggest pension fund in US started giving BTC as an option of it’s 401k pension plan).

My only certainty is: if we can’t share the umbrella, we will share the rain.

Yours in crypto