Market volatility

A convergence of things caused the blockchain markets to go down sharply.  We’ll address some of the main ones in this letter:

China “bans” bitcoin (for the third time)

Tax Day

Elon Musk’s 180

The volatility has presented a very compelling opportunity.  We are eager to deploy assets of the TheNewera Fund on June 30th.

Most volatile week in the history of bitcoin

The week of May 17th was the largest weekly trading range in history of bitcoin.

The proximate causes of the sell-off don’t seem commensurate to the large size of the move.  We’ll run through some perspectives here…

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I feel like we’ve seen this movie before

I love Joey’s take on it:

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Tax day

Tax Day can be important on crypto prices.  After the two previous big run-ups – 2013 and 2017 – bitcoin peaked four months before Tax Day and hit a low about a week before Tax Day.  That makes some sense.  A lot of crypto traders are new to investing.  You can imagine a person buying as much bitcoin as they can.  Sometime later they decide to swap it for ether.  And then, the next spring their tax preparer tells them they owe 34% of the gains in taxes.  Since they’re “all-in” on crypto the only way to raise cash to pay their tax bill is to sell some crypto.  Prices fall leading up to Tax Day.

“So, if it’s so obvious – why did you not see this?!?!”

We thought we did.  We were very conscious of this pattern as we came into 2021.  In late February we took off 20% of our risk.  The market quickly fell 25%.  We thought that was it.  Put our risk back on.  (That risk management has helped us out-perform this year.)

In mountain climbing there’s a term “false peak”.  Some mountains have two peaks.  From certain vantage points the lower one can look higher.  The New York Times recently did an article on how many of the famous climbs in history did not actually get to the highest point on the mountain.

https://www.nytimes.com/interactive/2021/sports/tallest-mountain-summit.html

In hindsight February was a false peak.  When the China-Elon earthquake hit, the markets fell again.

“So, are we now at a low?”

Having missed the second high, not sure that it’s worth sharing thoughts on the next question, but here goes…

My view is YES.  Previous Tax Day cycles have hit local lows seven days before Tax Day.  That makes tremendous sense.  That’s about how long it takes to get your money out of an exchange and to your bank.  The bitcoin market hit a local low near $30,000 two days after Tax Day (the U.S. government pushed Tax Day to May this year).  Only nine days off the historical average and within the period that makes intuitive sense.

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Deviation from 11-year trend

Here are a few other checks on whether bitcoin is overvalued.  

Bitcoin is currently trading 36% below its 11-year exponential trend.  Bitcoin has only spent 20.3% of its history as far under trend valuation.

At the recent peak, it went just a touch over trend value.  As you can see, past peaks were many multiples of trend value.

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YoY

The year-on-year return never went literally off-the-chart like in past peaks.  It’s currently trading at 281% year-on-year — which seems entirely plausible given the money printing that has occurred in that period.

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Bitcoin’s four-year-on-year return is at the lower end of its historical return.  Again, doesn’t look overvalued.

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Human nature is pro-cyclical :: go against the urge

Humans have an innate herd instinct.  It’s what kept our ancestors alive – when those with the wild lone-wolf/contrarian tendencies got “Darwined” out.  

• It’s human nature that we want to buy when the market is surging up — when the FOMO devil is whispering in our ear.
• When the markets are crashing – and our spouse/friends/boss are all WTF, we want to flee…we want the pain to stop.

We all do it.  

I’m probably not going to win the Nobel Prize in Physiology or Medicine for this, but I could imagine that the traits we imprinted on the plains of the Serengeti might not be optimal for trading early-stage protocol tokens.

TheNewera Bitcoin Fund is a smart cryptocurrency fund, so it has the most complete data on investor behavior over one cycles.  Here’s an update to a histogram. We updated it in 2018, after the 2017 peak.  While it’s too early to call 2021 a peak, a quick update is useful.

Going with the momentum is just human nature.

The following graphic plots the percentage of time that the price of bitcoin was in each price bucket.  We’ve added a new perspective this time:  the buckets are a logarithmic progression.  Each bucket is a 33% rally from the lower bucket.  They are labeled in terms of the percentage of the trend price bitcoin was trading.  

The gray bars are the percentage of time bitcoin spent trading in each price range.  The price distribution is fairly normally distributed.  Most of the time at or near trend.  A little bit of time super-cheap and a little bit way above trend.

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On the flipside, there have been very large inflows when it’s trading well above its trend.  The majority of the money has come in well into the rallies.

For example, the market spent only 10% of the time above 500% of fair value, but 39% of inflows came in at or above that level.

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This is not all bad; as we’ve stressed, bitcoin generally goes way up.  It has averaged more than tripling annually for ten years.  Anyone that has held bitcoin for 3.25 years has made money.  Bitcoin has only printed one calendar year with a lower low.  So, most of those investors are up big-time.  

Resist the urge to close down positions.  If you have the emotional and financial resources, go the other way.

For new investors, it’s best to buy when the market is below trend.  Now is one of those times.  The market has been this “cheap” or cheaper relative to trend only 20.3% of the past eleven years.

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