As we all know, there has been a sharp decline in the prices of Bitcoin and various other cryptocurrencies. Although the fact that the crypto market has elevated volatility is nothing new, this particular episode is kind of unique, because it wasn’t connected with anything particularly pertained to Bitcoin or crypto market as a whole. As we already discussed repeatedly before, cryptos represent a solid opportunity for any and every multi asset portfolio diversification.

The most recent concerted crypto-equities downward behavior suggests presence of a whale or several communicating with each other major cross-sectoral market players that decided to use the news of the new Covid-19 variant to stage a broad selloff. Let’s, once again, take a closer look at what actually happened and if that option is still up for similar future market corrections.

But even though crypto losses were dramatic, comparing them with those in stocks (see below) unveils a somewhat better resilience of the former. Throughout most of its history, Bitcoin has maintained a low correlation to traditional asset classes, including broad market equity/bond indices and commodities like oil and gold. The uniqueness of Bitcoin’s price actions has historically made it an attractive tool for portfolio diversification. The 100-day correlation ratio of Bitcoin and the S&P 500 stands at 0.33, among the lowest readings of that class of the year.

Pic. 1: Mutual Normalized Performances of Bitcoin, Gold and S&P 500.

Below is the table of current correlations:


Source: Morningstar

For Bitcoin (as Represented by Grayscale Bitcoin Trust for Portfolio “Equitization”)-S&P pair (The Range is 0.1—0.4):

For Ethereum (as Represented by Grayscale Ethereum Trust for Portfolio “Equitization”)-S&P pair (The Range is 0.07—0.57)

Tackling finding a credible explanation of what happened, why and whether we have to get used to it, points to several interesting issues. A year ago, the United States confiscated a record $1 billion in BTC. Since then Its cost has tripled. These are the thousands of BTC seized in November 2020 in connection with the illegal Silk Road marketplace, a dark web forum where drugs and other illegal products were bought and sold with digital currency. Bitcoin is still held by the government for bureaucratic reasons. And in the year that has passed since then, the coins have tripled in value. That is, what was once worth $1 billion is now worth about $3 billion. Judging by the ongoing events, such sums once consolidated within entities or some disloyal groups act as an ignitor for market flash-crashes. Very few crypto market analysts either account for this interesting market feature or at least take them seriously while forecasting medium and long-term crypto trends.

Last week Friday’s Bitcoin liquidation cascade was the second largest single day event of 2021 in BTC terms, bested only by the May 19 “Chinese” crash in sheer size. The bear trend also formed largely due to the sale of coins of one of the whales in excess of $500 million. Following this sale, there has been an active liquidation of BTC in the cryptocurrency derivatives market. In total, over 1.3 billion long positions were liquidated in the market, causing the BTC price to move down from $51,000 to $42,000. Total open interest in the derivatives market also fell from $21.6 billion to $16.7 billion in less than an hour.

Another evidence points to the fact that this was yet one more derivative-induced selling event. The September flash crash had the same drivers as this selloff — leverage was flushed from the system in a violent fashion, which later created synergy of factors for the market to eventually move higher toward a new all-time high in October. There is an unusually high level of consensus, that the recent deep correction was derivatives-based, while open interest has been at all-time highs for more than a month while crypto funding rates have been (and remain) positive. So there is similar connotation suggesting a high probability for this pattern to repeat itself on and on, up until some principally new crypto dealing framework emerges.

Meanwhile, there is a reasonable case to believe that we could see the opposite effect heading into Q1, as funds remember last year’s events on the crypto market and don’t want to be left behind this time around. The appetite for taking on more risk is enormous being spurred by increasing inflationary expectations, so the next couple of months will be enormously important in respect to algorithmic patternization. The network dynamics are still healthy and show supply continues to move to long term investors.

The bottomline of this and several similar events in the past, is that while several countries are elaborating imposition of stringent regulatory legislation towards owning and transacting Bitcoin and other cryptos, they need to match those with another classic regulatory function – watching and penalizing all sorts of market manipulations, whose count, as the recent new episode demonstrated, keep rising.