Bitcoin — The Rise of Fake-outs and Why This May Signal A Broader Bull Market

Overview:

Over the past couple months, we have witnessed an increasing number of fake-outs with Bitcoin. These whips saw swings have knocked out traders both long and short. To be clear this is still not a trending market, but a range bound market until we see a trend develop. However, these moves may be implying that a recovery and potential broader bullish move is eminent based on supply and demand.

Float vs Closely Held:

There are two types of market participants, investors and traders. Investors often buy and hold, accumulating over time, and are not looking to sell their shares or coins. These shares or coins are considered “Closely Held”. The difference between the overall shares or coins available and the Closely Held shares or coins is called the “Float”. These are the shares or coins that are actively traded or available at the market price to become closely held shares.

Dumb vs Smart Money:

There are two types of traders and investors which have been labeled over the year as Dumb Money and Smart Money. Dumb money is inherently the average trader or investor or simply the retail guy. Smart money is considered the larger hedge funds, institutional investors and large trusts. This is not to imply the retail trader is dumb, but the quality of information accessible and available to them.

Smart money has the financial means, friends in the right places, and influence to gain access to information the retail trader simply does not.

Enter the Smart Money:

Unlike many traders and some investors, smart money is not overly concerned about a $300-$1000 move in Bitcoin, or the fact it pulled back 30–50% from their initial entry. Most are focused on the long term and we see evidence of this sporadically with larger trusts like MIT, Harvard, and Princeton, to name a few, that reported investing in the space last year when the price was over 6k.

We also have seen many platforms like Coinbase move into the “custodial” space, which is a financial institution responsible for safeguarding a firm’s or individual’s financial assets. Fidelity recently launching Fidelity Digital Assets focused on large portfolios like hedge funds, pensions, endowments and institutional investors. Goldman Sachs among others are looking to launch new products for their larger wealth clients, and institutions as well.

It is important to understand that large funds, endowments, and investors hold for years and decades not months. This is Warren Buffet’s philosophy and the philosophy of similar type investors. They tend to buy and hold a diversity of assets from Real Estate, stocks, bonds and gold to Cryptos.

In short, Smart Money is just starting to get in, and unlike stupid money that flocks like bread crumbs thrown to seagulls on every $200 price swing, Smart Money just slowly accumulates. So where are they getting this supply of Bitcoin, after all there are currently less than 20 million coins in circulation?

The Trader and Market Maker:

I remember in the mid to late 90’s when everyone was a trading and investing expert. Money is easy in an overly bullish market, and everyone was a market expert. Yet navigating a bear market is not as simple as it seems, other than in hindsight. I recall many friends and co-workers whom after making a lot of money in the market, gave it back and then some, finally throwing in the towel.

It was initially a buy any dip and make money, which turned to leverage more to make more money during the dotcom bubble. After all pets.com and AOL were not going anywhere right? It was not uncommon to hear co-workers and others brag about how they were in this stock, that stock and had 20–30 positions and killing it. This ended badly for most, or at least the ones honest enough to admit it.

We saw a similar phenomenon in 2004 thru 2008 in Real Estate. I remember many speculators were throwing down 50k deposits on a pre-construction 500k condos or house, only to flip it for 700k before the roof was on. These were the greedy market makers of real estate and they were not just doing one flip, they were loading up, having 4–5–10 deposits down and financing their own home to do more. Again, this ended badly for most of them.

Though the market has changed, history repeats as the human behavior of impulse and greed show no boundary between rich and poor.

Supply and Demand:

With less than 20 million Bitcoin in created, the actual float is a lot less. Not only do these large institutions put their assets in cold storage, many retail investors have done the same.

Even I recently added some fresh money to my account with the sole purpose of locking it away in my safety deposit box. Long term investors buy the dip and store. Sure, they do some selling, but do you think they are selling here? Do you think they care if it goes to 3k?

They as I do, will simply continue to accumulate. So as these heavy weights, and many retail investors continue to accumulate, the supply must come from somewhere and there are only two sources, the available float or closely held inventory. Sure you could open a mining rig, but most are not doing that.

BTC Trading Volume:

Over the past year we have seen trading volume with Bitcoin decrease other than the large selloff in late 2018. In addition, the float is decreasing and liquidity on the order books is becoming less, as coins move from float to closely held. This is evident as Coinbase Pro’s new market structure update, released a couple days ago, is attempting to resolve this.

Part of the update is to constantly review maximum order size, which may be an attempt to prevent market raids from smaller players, as volume and float continues to decrease.

Regardless trading volume continues to decrease, yet institutional and large fund buying is on the rise. The creates the redistribution of equities from dumb money to smart money through those that are over trading.

In every market there is the middle man. We saw this in the housing market where speculators were the go between developers and future buyers, putting down pre-construction deposits so the developer could show 50% sales in a project, in order for the bank to finance construction. Or the gold market, where smaller dealers act as a midway between the large companies, like Apmex, and the person looking to sell a coin collection.

In Bitcoin there needs to be a continual supply to the larger players looking to sell to clients or accumulate for themselves. Now sure there is an OTC market and there are some sellers, but if hedge funds and institutions are entering the space, there is likely more demand than supply. This provides opportunity for those that have a descent chunk of capital or coins to become the middle man.

The Easy Button:

Institutions are not necessarily spending time trading Coinbase and other platforms to acquire inventory needed to sell to larger clients. A large investor that wants to invest $1 million in Bitcoin, is willing to pay a premium for convenience of hitting the easy button. Often the premium is high for easy, which provides opportunity for middle men to fill the gap and make some money.

GBTC is the perfect example, as it trades nearly a 20% premium to the spot price, not including the annual fee of 2% to hold your position. It is the easy button for large institutions, and they are willing to pay a premium to not worry about holding their investment. Now sure GTBTC is an actively traded instrument, but still many use GBTC as an instrument to invest in Bitcoin.

With over 1% of the outstanding Bitcoin supply GBTC has increased their holdings from 172k bitcoin to over 200k Bitcoin or an increase of nearly 20% during 2018 alone. This is over 570 Bitcoin a week that was removed from the float just by GBTC. This does not include Fidelity, Goldman, Baakt, JPM and others that are putting together instruments for investors or have instruments through partnerships in place.

So, we have large fund and institutional demand slowly removing float from the market coupled with longer term retail investors. This eventually leads to a supply issue and an increase in price.

Enter the Middle Man:

This is where the middle man can make some money, but first he needs to obtain Bitcoin. The low volume and thin spread across numerous exchanges allows for even a smaller market maker to push the market. We have been cautioning for months to be careful about fake-outs, and without fail we have seen several over the past few weeks both long and short.

Like the housing speculators a friend tells a friend what he and others are doing, and the next thing you know you have a crowded speculator market. In this case you have a crowded whale market, where more and more market raiders are attracted to the lure of easy money.

They can use their leverage to accumulate inventory, both on the long and short side of the market. They can then flip these profits on the OTC market for a nice premium. Of course as competition heats up in the middle man market, the margins are squeezed and it is a fight to get ahead of the next flipper. This would result in tighter price swings which is what we are seeing as of late.

BTCUSD Evidence:

There is no follow through on any breakout either long or short, which may imply breakouts were met with large buy or sell orders. This provides evidence that market makers are simply looking for opportunities to stop out a trade in a shallow traded market. They fact it is happening within a tight range, may be indicative that numerous market makers are going after a minimal amount of float.

Like the competition heated up in the 2007 in the condo flipping market, competition to flip coins on the OTC market may be heating up as well. With a low float this becomes easier to do, and easy money attracts more into doing this. Yet eventually it will end, and end badly for some, just like the housing speculators left holding the bag on 5–10 500k condos when the housing market collapsed.

Of course the supply and demand metrics are different between a limited supply like Bitcoin, and an unlimited supply like building more houses.

Not Enough Supply:

Whether it is metals, crypto currencies, oil or stocks, there is only so much supply on the market at any one time. Even though there may be more out there, the active market participants are trading with only so much float. As float is removed from the market you get a supply issue. This is when potential for large breakouts occur.

The only way float comes back into the market is from “closely held” shares or in this case closely held coins. The only way to get investors to come off this inventory, is for the price to move higher and to a point where they are willing to let go of their closely held coins. Everyone has their price.

Tilray:

The perfect example of this is Tilray. In September, when we started to see the epic run in Tilray, the share float (float is the number of shares available for trading) was under 18 million. The Orange line at the bottom identifies a volume of 20 million shares. As you can see the volume exceeded the total number of shares available on the market often during the rally.

The float is the difference between the shares outstanding and the closely held shares. As in any market, as price increases, closely held shares move into the market and become part of the float. Yet often shares are locked up for a period which prevents them from entering the market. Currently the float in Tilray is around 22% or 18 million as much of the float is locked up for a 6 month period after the IPO.

This is the perfect example as to what happens when active supply starts to dry up, and shorts that have to buy it back, are fighting with new participants joining the rally.

A huge price swing, but like everything in life, everyone has their price, and eventually investors took advantage of the market moving vertical and over 300% in a few days. Shares accumulated at lower levels and considered “closely held” but not locked up, enter the market at a price where investors were willing to sell. In short “closely held” moved to float.

No different than people selling their family heritage antique sterling dinner ware during the 80’s silver boom. There is a price where people will sell something “closely held”, when a market is overly bought, hence the term “closely held”. This same phenomenon will likely happen with Bitcoin in the future. Maybe it’s a week or 6 months, but there is much evidence float is being removed from the market.

Buying Opportunity:

If my theory is correct, and there is much evidence provided here, and more than I did not go over, due to time constraints, eventually we should see a large price spike in Bitcoin. A push above 4500 is likely to gain market interest from those that are still waiting for the demise of prices into the 1500 area, and those that are waiting to confirm a bull market.

We could easily see a spike into the mid 6k-8k area in a day or two. This coupled with short interest, will create demand for coins to sell, and as buyers step in and shorts are forced to buy to cover their positions. As momentum heats up those that missed buying at lower prices go into full FOMO further increasing the rally. Tilray all over again. Often it takes days and there will be some early signs like we saw with Tilray which ironically has a larger float than Bitcoin.

In short, the next month or so may be the last opportunity to buy at these prices. Of course, I could be completely wrong, and we push lower into the 2k’s, however, what evidence is there to support this? I am not talking about RSI’s, MACD’s, Clouds, or the Death Cross, I am talking about fundamental evidence?

Evidence Summary:

• We have larger institutions and funds accumulating Bitcoin over the last year reducing the outstanding float as these are considered “closely held”.
• Many major banks and investment firms are implementing digital custodial and trading mechanisms from Goldman Sach’s, to Fidelity and the almost forgotten about the NYSE’s Bakkt platform soon to launch.
• Large brokers like Goldman, JPM and others sell from their inventory at a premium. They require inventory in order to offer these instruments to their clients.
• Platforms like Robinhood and Square are starting to integrate into the space as well
• As long-term investors buy, like me and others, the available float on the market slowly decreases.
• There are two main ways to get “closely held” coins to move into the market. Scare the market into selling (like the 6k to 3k selloff), or prices move so high that longer term investors start selling a portion of their holdings. At this point is there anyone that is still holding that is scared money? Probably not many.
• Fake-outs and raids are becoming more common place along with the associated volatility. Like the condo flipping craze in the mid 2000’s, it attracts more market makers making it prime for a flush out on a strong move. We saw this in 2008.
• There are many still waiting on the sidelines to get into the space, add to their inventory, or to buy back coins they previously sold.
• This does not take into account an ETF gets approved, this alone may add 30–40% in minutes.

Always a Missing Piece:

Markets are a puzzle and we never have all the pieces, but understanding how markets work, order flow, available float and other fundamentals of markets go a long way to getting a clearer picture.

With volume at historical lows, the opportunity for short and long raids, becomes easier and more prevalent. Like the condo flippers of 2005 it attracts more “easy money” market makers. This may be why we are seeing more and more fake-outs within such a tight range. There is competition among raiders, and the tight range is evidence of small bites in lieu of larger ones we once saw.

As investors continue to accumulate and inventory moves from “available float” to “closely held”, supply dwindles to a point where demand takes precedence and we see a hard spike higher. As demand increases, only a substantial increase in price will bring “closely held” shares back into the market.

Summary:

In the end I may be wrong, and we slip into the abyss of a broader bear market. Anything is possible, but the rise in fake-outs, tight trading range, historically low trading volume, and the fact exchanges are implementing safety features to prevent raids, adds evidence that coinage is being pulled from the active market through manipulation and the “available float” is slowly dwindling.

In my humble opinion the market is setting up for a broader move higher. Though it will be choppy, this will provide a potential buy the dip opportunity. There is a strategy to play take advantage of this type of market. It is not for the weak or those that are not pain tolerant. The question is can you look outside the charts!