Crypto to Crypto Correlation and Cryptocurrency Investing
In the world of investing, diversification is important as different assets perform differently according to the economy, their investment sector, and the fundamentals that drive their intrinsic value. The point is that a well-chosen stock will grow by multiples in value and eventually pay dividends in excess of its original purchase price. Meanwhile, a poorly chosen stock will languish in its original price range before downgrading to a penny stock and then going out of business. Thus, there may be very little correlation between one stock and the next. So, why is there so much crypto to crypto correlation? How should you pursue crypto investments with this realization in mind?
FTT and BTC Correlation
If you are expecting all crypto tokens to move more or less in lockstep with Bitcoin you need to allow for business failures as well as the events that move the entire market. A case in point is FTT, the FTX token. The FTT token was launched in August of 2019. It traded in the $1 range for a year and gradually rose to the $4 range before it took off at the beginning of 2021 which is when Bitcoin broke $20,000 and reached $61,000 before falling back to about $35,000. Meanwhile, FTT rose to $70 and fell back to the $30 range by mid-summer. Then it rose to $80 in September and settled down to about $65 in November before the whole crypto world started to slide into winter.
The point is that there was a pretty close correlation between the movements of BTC and FTT during this time. That correlation continued as both Bitcoin and the FTT token fell to about a third of their peak values by November of 2022. That is when they diverged as the price of FTT fell to less than a dollar within a day as financial problems and, eventually, evidence of fraud emerged. A similar fate befell others such as VGX, the Voyager Digital token, and CEL, the Celsius Digital token. The close correlation in value swings was reliable until it was not, and companies ran out of money, declared bankruptcy and are not trading at “pennies on the dollar.”
How Can You Predict Trouble with a Crypto Token?
Here is where regulation raises its head. Companies on the Nasdaq and New York Stock Exchange need to provide financial statements that are independently audited. It is possible for companies to hide information but that is rare and when it happens it is typically uncovered. Banks are subject to financial “stress tests” ever since the aftermath of the financial crisis.
As regulators and lawmakers look at what needs to be done, they have to decide if crypto tokens are like commodities and fall under the rules of the Commodity Futures Trading Commission, banks that hold people’s money and are overseen by the Federal Reserve, of like stock that are regulated by the Securities and Exchange Commission. Some combination of regulation by these folks will emerge which will make crypto exchanges and their ancillary businesses more transparent and, thus, make it easier to spot risks that end up leading to events like the FTX bankruptcy.
Which Crypto Token Should You Trade or Invest In?
If pretty much all crypto tokens trade more or less in lockstep it would seem that you could pick any to trade or hold in hopes of a crypto spring after the current crypto winter. In the wider world of investing, two things drive prices. Long term prices are driven by the fundamentals of an asset, its intrinsic value, which is its forward looking cash flow. The other is market sentiment which is the short term expectation of the market.
On one hand the world of cryptocurrencies is more closely related in pricing to stocks in the Nasdaq and more driven by inflation, war in Ukraine, and the risk of a recession that proponents of cryptocurrencies would like to admit. On the other hand, the crypto world is scared. People are losing money right and left, the second biggest crypto exchange just collapsed and it turns out that the boss was playing fast and loose with client assets. These are the things the drive market sentiment, and prices, down below what fundamental values would dictate.
The famous investor, Warren Buffett, said that in the market one should be fearful when everyone is greedy and greedy when everyone else is fearful. With the exception of fraud and poor business management as reasons to stay away from a token and exchange, the top tier crypto tokens and especially BTC and Ether stand a chance of making a recovery as the economy brightens. Our belief is that Ethereum with its activities in NFTs and blockchain gaming has a brighter long-term future than Bitcoin.
The famous investor, Warren Buffett, said that in the market one should be fearful when everyone is greedy and greedy when everyone else is fearful. With the exception of fraud and poor business management as reasons to stay away from a token and exchange, the top tier crypto tokens and especially BTC and Ether stand a chance of making a recovery as the economy brightens. Our belief is that Ethereum with its activities in NFTs and blockchain gaming has a brighter long-term future than Bitcoin.
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Originally published at https://profitableinvestingtips.com on December 31, 2022.
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