DAR Crypto Weekly — 1/17/20
Price Discovery in Bitcoin | Reflexivity and Halvings | Price Rationality
Market Overview
Digital asset prices soared on the week with the total industry market cap up 15.1% to $233.1. Large-cap winners on the week were Bitcoin SV (BSV +169.6%), Dash (DASH +143.5%), and EOS (EOS +39.7%). Relative laggards in the large-cap category were Bitcoin (BTC +9.8%), Monero (XMR +11.4%), and XRP (XRP +11.5%). Other noteworthy positive movers across the industry were Bitcoin Gold (BTG +122.4%), Bitcoin Diamond (BCD +95.6%), and Augur (REP +81.0%). Other notable laggards on the week included LEO (LEO -1.1%), Dogecoin (DOGE +2.6%), and Tezos (XTZ +2.7%).
DAR Research and Events
We’ve been quiet the past few weeks not because we’ve been slacking off, but because we’ve been working hard in the background on something we announced this week — an analysis of price discovery in Bitcoin markets. More specifically, in the era of fake exchange data and potential for fraud and manipulation, which trading venues lead in the creation of a price and which lag. This was something specifically addressed in the SEC’s denial of the Bitwise ETF application back in October. We felt it critical enough for the development of the digital asset market and for retail investors, financial institutions, and regulators to have a deeper understanding of the matter. It’s just the first step in the area as we still have plenty to do, but our initial findings were surprising on several levels. Check out our post to find out more here.
The prelude to this analysis on why this is important can be found on Bitcoin Magazine here.
Crypto Market Comes to Life…
The crypto market sprung to life this week and as usual, social media clamored for an explanation. Was it the newly launched Bitcoin options on CME? The fact that Craig Wright allegedly provided the necessary information to unlock his supposed Bitcoin stash? Anticipation of the 3(!) upcoming halvings? Seasoned investors were at a loss as well, with Mike Novogratz offering dinner to the Twitter follower with the best explanation. Whatever the reason, some of the industry’s most controversial assets were up significantly, including numerous Bitcoin forks like Bitcoin SV, Bitcoin Cash, Bitcoin Gold, and Bitcoin Diamond. And while we think it’s only human to want to understand cause and effect especially in investing, digital asset markets have proved time and time again that they are anything but rational. Our honest answer to explain the move is a combination of fundamental items, like the aforementioned news items, and quantitative signals like investor positioning, technicals, and some good old fashioned “fear of missing out.”
…Calling into Question Market Rationality
But that brings up an interesting aspect of digital asset markets that have also been of discussion lately — market efficiency and the ability to incorporate fundamental information into prices. All investors from time to time see price reactions correlated to events that seem misjudged, contrary to the facts, or just plain wrong. While that seems to happen more so in crypto markets than anywhere else, perhaps owing to the predominance of retail investors coupled with the opaque nature of information in the space, it is anything but unique. Our observations of being public market investors for 23 years now is that the relevant question isn’t what should the price reaction be to a specific event and then why the price reaction different from that, rather it’s what does the fact that price has changed given that a piece of news is out telling you about how others view the event.
Soccer Not Football
What makes this challenging in crypto versus traditional markets is the non-stop nature of trading, which gives little time to measure, assess, and make decisions. US stock markets are open from 9:30 AM to 4:00 PM Monday through Friday and trade assets, stocks, that have information that comes in a fairly predictable manner (economic data, earnings, conferences, etc.). On top of that, reactions to events can be fairly predictable — if a company beats earnings, it’s likely to increase in price. Against this backdrop, traders can run more defined “plays” (ie event investing) with the stock market. In that sense, equity investing much more like a game of football where a play is run, an outcome is known, and then the team regroups to pick the next play. This is opposed to investing in crypto where the information is fluid, the grasp of the information is hard to come by, and the clock never stops. Add in the fact that this is global in nature and participants rarely speak the same language (figuratively and literally) and we have something that looks more like soccer than football. This is neither good nor bad, rather it’s a fact that should be reflected in the ways that assets are managed.
Reflexivity Rules
George Soros, perhaps the greatest investor who ever lived by virtue of his track record, popularized the concept of “reflexivity”, or the self-reinforcing effect of market sentiment. How to think about this in the context of crypto is the current market resurgence and the debate around the impact of halvings. It is our observation that Bitcoin’s exponential price gains have occurred around the prior two halvings, starting its asymptotic rise before the halving and peaking after it. Whether that will happen again in May is still up for debate, but what could end up happening is that this rally causes investors to question the reason for the rally and invariably one of the answers is “reward halving expectations.” As that more investors realize that, it could drive further interest in the theory and reinforce the idea that “halvings cause price appreciation”, thus causing further price appreciation. In this way, reflexivity could be one of the causes of a price rally around the halving.
We’ll have to wait and see the outcome though before we pass judgment on the theory. As in many things in life, nothing is set in stone, which is especially true for crypto.
That’s all the time we have this week. Please reach out with any questions, comments, or feedback on our work. Get our weekly wrap and daily news delivered directly into your inbox here.
