Bitcoin has entered a bearish cycle but the outlook for the cryptocurrency is surprisingly positive. It looks like tough times for Bitcoin (BTC) investors. The price of BTC is down by 44% since its peak of over $64,000 back in April. Large drops in the price of cryptocurrency are normal but Bitcoin’s recent decline has sustained, and many of the traditional signals are decidedly bearish.[1] This all looks very grim for HODLers but there are a number of highly positive undercurrents that paint a more bullish picture than the data would imply. To understand why this bear market isn’t a problem, we need to understand how we got here. For the first half of 2021, a flush of institutional investor capital sparked a bull run that sent Bitcoin to all-time highs. (See my previous article here.) In early April, the first signs of a correction appeared, followed by a sustained decline through May and June. The initial correction was widely expected. As the price of BTC increases, it typically begins to lose market dominance. This happens because the market believes that BTC is overpriced, and it results in selling pressure as traders attempt to cycle out of Bitcoin into altcoins that they believe are overpriced. (See my article on altcoins here.) However, this correction alone shouldn’t have been enough to spark a bear market. The real trouble came on the back of a wave of negative news. The most widely noted is Tesla's (NASDAQ: TSLA) announcement in May that they were no longer accepting crypto due to environmental concerns, which sparked a 10% decline in the value of BTC.[2] Tesla & Bitcoin pic.twitter.com/YSswJmVZhP This was followed by news that would be a hammer-blow to the cryptocurrency market. On May 18, China announced that it was banning financial institutions and payment companies from offering any services related to cryptocurrency transactions.[3] This was followed up by increasingly negative government rhetoric and an outright ban on cryptocurrency mining in certain regions of the country.[4] In order to process transactions, Bitcoin relies on a process called mining. This involves large numbers of computers solving complicated equations to earn the right to process a block of transactions. In exchange for this, they are given Bitcoin as payment. This process serves both as a way to protect the blockchain from attacks and to mint new coins. Decentralization is an important part of this process. Any individual mining operation gaining over 50% control of the network could theoretically use that to approve fraudulent transactions. This is called a “51% attack,” and it would destroy Bitcoin’s reputation as a secure technology. “At their height, Chinese miners accounted for as much as 75% of the world’s Bitcoin mining capacity.” In the early days of Bitcoin, it was possible to be competitive with a relatively inexpensive set-up and some technical know-how so decentralization was easy. However as time went on, mining became increasingly expensive, and specialized machines (known as ASiCs) were required to be competitive. Eventually, many of these operations would consolidate into large operations known as Mining Farms.
Why Is Bitcoin In a Bear Market?
Why Did China’s Ban Cause So Many Problems?
A lot of the consolidation happened in China. At their height, Chinese miners accounted for as much as 75% of the world’s Bitcoin mining capacity.[5] This meant that any decisions made by the Chinese government would have an outsized impact on the cryptocurrency market, which is exactly what is happening now.
It also potentially opens Bitcoin up to a 51% attack, where a miner (or group of miners) control enough of the network to approve fraudulent transactions. This could allow them to do things such as spend the same Bitcoin twice, and would fundamentally undermine the security of the blockchain.
Southwest China's Sichuan Province, responsible for 90% of China’s Bitcoin mining, has now made it illegal.[6] This means that there will be significant short-term disruption as smaller mining operations now have to process these transactions, increasing transaction time and cost.
Additionally, it is likely that we will see increased selling pressure as some operators seek to cut their losses and sell their BTC to decentralized exchanges before the government completely bans Bitcoin altogether.
Despite the Tough Market, There Are Good Times Ahead for Bitcoin
Taken together, this paints a grim short-to-medium term outlook for Bitcoin but there is a lot more happening here than meets the eye. I believe that are three key factors that will bring Bitcoin back into a bull run sooner than you might think.
KEY FACTOR #1:
China’s Mining Ban Solves Bitcoin’s Biggest Problem
The market may have dipped based on what’s happening in China, but in the long term it is hugely positive news. China’s dominance of Bitcoin has long been used as a reason to undermine the cryptocurrency. So much so that the Ripple (XRP) has referred to the cryptocurrency as “chinese-controlled.”[7]
There are two reasons this was so problematic. First, to paraphrase the Australian Foreign Investment Review Board, “there is no such thing as a private company in China.”[8] China's National Intelligence Law, specifically articles 7 and 22, requires all Chinese companies to cooperate with national intelligence.[9] This means that China could have compelled cryptocurrency miners in the country to deliberately attack the Bitcoin blockchain in order to undermine it.
Secondly, this gave the Chinese government’s decisions a disproportionate impact on the price of Bitcoin. As happened in June of this year, a single announcement had the power to send BTC spiralling into a bear market.
Somewhat ironically, the Chinese government's attempts to kill Bitcoin may have ensured its long-term viability.
One of the big barriers to adoption was the dominance of Chinese-based mining operations. The mining ban has accelerated the departure of operations from China, which will now likely move to more diverse and stable locations.
It will also open up the opportunity for new operators to move in and further diversify the pool of active Bitcoin miners.
China’s mining ban will help to further decentralize the Bitcoin mining ecosystem. This will limit the possibility of a 51% attack, while also hopefully moving Bitcoin to jurisdictions that rely upon renewable energy—instead of Chinese coal power plants.
KEY FACTOR #2:
On-Chain Analytics Are Positive
There are a few things to digest here. The easiest to understand is Bitcoin’s market dominance. Looking at the chart below, you can see that as the price of Bitcoin steadily increases, its market dominance decreases. This phenomenon is at its strongest when investors are investing in altcoins, and usually signifies the period of mass speculation that precedes a major correction.
The interesting thing about this chart is that it looks like Bitcoin dominance is slowly beginning to increase again.
At time of writing, Bitcoin (BTC) sits at 44%. A JP Morgan analyst has noted that once market dominance can consistently keep above the 50% line we should see a shift back into a bull market.[10] At the moment, Bitcoin is slowly nudging upwards as investors cycle out of altcoins and consolidate their assets.
The thesis that we’re moving out of a bear market is also shared by a number of on-chain analysts. These analysts specialize in looking at cryptocurrency-specific statistics that the market may have missed.
One of the most interesting insights comes from Willy Woo, an industry pioneer of on-chain analysis. Woo has noted that Bitcoin appears to be rapidly approaching a supply shock.[11]
There has been significant selling pressure on Bitcoin, in part from Chinese miners, But the majority of pressure is from “young” coins, or those that have been bought in the last 6 months. Analysis from GlassDoor showed that 45% of transactions came from these young coins.[12] These are likely investors who bought at the top of the last bull run and are now realizing their losses.
It appears that long-term investors have been the beneficiaries of this selling pressure. So-called “millionaire wallets” purchased more than 90,000 BTC ($2.9 billion) in 25 days in June.[13] This could lead to a situation similar to the end of 2020 where demand for BTC outstrippped the exchange’s ability to supply it. This led to increased scarcity and significant price increases.
KEY FACTOR #3:
Governments Are Finally Crafting Proper Cryptocurrency Legislation
Despite it being an anathema to many cryptocurrency die-hards, government regulations are finally beginning to take form, and that is a good thing. Cryptocurrency has been able to operate in its own legal vacuum for some time.
Prevailing wisdom in the cryptocurrency community would prefer it this way, but it creates one big problem: uncertainty.
In the absence of any law governing the use of cryptocurrency, there is always the risk that governments will choose to make operating exchanges illegal, strangling liquidity. Owning 50 BTC isn’t much good if you can’t convert it back into cold hard cash.
The current US administration has begun to craft cryptocurrency-targeted regulations. Specifically, it has addressed this issue in the American Families Plan.[14]
The proposal, designed to combat tax evasion, would require all businesses and cryptocurrency exchanges to report any cryptocurrency transactions with a fair market value of $10,000 or more to the IRS. The move would bring cryptocurrency reporting requirements in line with those that already exist for cash and other assets.
This kind of move is important because it legitimizes Bitcoin as a real financial asset, not something entirely used for money laundering.
It also opens the door for more financial institutions to offer a wider range of legitimate cryptocurrency services. It will help drive mainstream adoption and have a strong positive effect on the price of Bitcoin in the long term, even if there are growing pains.
There are some outliers who have already fully embraced Bitcoin. El Salvador has become the first country to make Bitcoin legal tender.[15]
The move was designed to open up banking to the 70% of El Salvadoran citizens who can’t access traditional financial services. It was also intended to make it easier for El Salvadorians to send money home while working abroad. While the move itself is unlikely to have an outsized impact on the price of Bitcoin, it could be a sign of things to come.
The Market Still Lacks a Catalyst
These key factors are all hugely positive trends but there are still risks. The main reason that we have not seen a mass sell-off from long-term Bitcoin holders is that prices are still holding above the price 12 months ago. If the price of BTC were to dip below the $25K mark, there is a risk that it would spark a significant sell-off as more investors realize losses, or accept smaller gains.
Perhaps for this reason, the market is still “rudderless.” Retail investors appear to have exhausted themselves chasing meme-coins, and there does not appear to be a significant appetite from institutional investors to buy the dip. This means that the market needs a new catalyst in order to move one way or another.
The most likely catalyst will probably come from Ethereum (ETH). The much-anticipated London Fork is set to be released on August 4.[16] This upgrade is designed to solve many of the scalability problems currently faced by the Ethereum blockchain.
If successful, this has potential to re-energize the cryptocurrency market, which will undoubtedly benefit the price of BTC. Assuming this holds true, we could see the reversal of the bear market within the next 30–45 days.
Bitcoin Remains a High-Risk / High-Reward Investment
While I am bullish on BTC, I strongly recommend that anybody interested in investing in cryptocurrency do their own due diligence. The first and best place to start is the Bitcoin wiki, which will walk you through the basics. Once you feel you have a grasp of how it functions, then you can decide if Bitcoin is the right investment for you.
With all that said, I will leave you with the (often paraphrased) words of Warren Buffet’s 1986 Berkshire Hathaway[17] shareholder letter:
“We simply attempt to be fearful when others are greedy and to be greedy only when others are fearful.”
Make of that what you will.
Saul Bowden, Contributor
for Investors News Service
P.S. To discover more opportunities in the hottest sectors in North America, sign up now to the Financial News Now newsletter to get the latest updates and investment ideas directly in your inbox!
DISCLOSURE: Saul Bowden holds Ethereum, Bitcoin, Uniswap and other crypto assets.
DISCLAIMER: Investing in any securities or cryptocurrencies is highly speculative. Please be sure to always do your own due diligence before making any investment decisions. Read our full disclaimer here.
Published July 2021
Sources:
[1] https://coinmarketcap.com/currencies/bitcoin/onchain-analysis/
[2] https://finance.yahoo.com/quote/TSLA
[3] https://www.reuters.com/technology/chinese-financial-payment-bodies-barred-cryptocurrency-business-2021-05-18/
[4] https://www.globaltimes.cn/page/202106/1226598.shtml
[5] https://www.nature.com/articles/s41467-021-22256-3.pdf
[6] https://www.globaltimes.cn/page/202106/1226598.shtml
[7] https://ripple.com/wp-content/uploads/2020/12/Ripple-Wells-Submission-Summary.pdf
[8] https://www.afr.com/policy/foreign-affairs/no-such-thing-as-a-private-company-in-china-firb-20190116-h1a4ut
[9] https://www.aspistrategist.org.au/huawei-and-the-ambiguity-of-chinas-intelligence-and-counter-espionage-laws/
[10] https://news.bitcoin.com/jpmorgan-predicts-bitcoin-bear-market-over/
[11] https://willywoo.substack.com/p/022-the-great-divergence
[12] https://insights.glassnode.com/the-week-on-chain-week-25-2021/
[13] https://cointelegraph.com/news/millionaire-whales-gobble-up-90-000-bitcoin-over-past-25-days
[14] https://home.treasury.gov/system/files/136/The-American-Families-Plan-Tax-Compliance-Agenda.pdf
[15] https://www.bbc.com/news/world-latin-america-57398274
[16] https://www.coindesk.com/ethereum-london-fork-launch-date-august
[17] https://www.berkshirehathaway.com/letters/1986.html
