Simple arguments for why an investment is worth buying are often the best. If something is really going to gain in value, there’s usually no need for complicated analysis. But analysis can be rewarding.
If you’re holding or planning to buy Bitcoin (CRYPTO: BTC), there’s a chart you need to see and understand.
Bitcoin is a financial asset. While it’s true that in the long term, the value of Bitcoin is influenced very heavily by the constraints defined by its protocol, in the shorter term it’s influenced by all manner factors, just like other assets.
As Bitcoin has gained adoption over the years, its it has become integrated into the global financial system, which has reduced its insulation from the fluctuations of other assets. In other words, Bitcoin is now held widely enough that people can easily sell it in a hurry when the stock market crashes or buy more of it consistently over time as the economy furnishes them with additional income. But this cloud has a silver lining. Check out these charts:
The first chart depicts the five-year price history of Bitcoin and the SPDR S&P 500 ETF Trust (NYSEMKT: SPY), an exchange-traded fund (ETF) that performs in accordance with the S&P 500, which functions as a proxy for the U.S. stock market. The second depicts the correlation coefficient between the price of the ETF and the price of Bitcoin, as well as the average degree of correlation over time.
Look closely at the correlation, and then look at what the price of Bitcoin is doing at times when the correlation is at its lowest. Notice anything?
The correlation between Bitcoin and the wider markets tends to break down just before Bitcoin goes on a tear upward. Then, after Bitcoin tops and starts to fall, the correlation reverts to closer to the mean.
In general, Bitcoin and the market are fairly strongly correlated. During the periods of strongest correlation, both Bitcoin and the stock market are in uptrends.
So what does this mean?
The most important takeaway is that if Bitcoin is falling sharply while the stock market is chugging along, it’s more likely to be a temporary state of affairs for Bitcoin than a more prolonged downturn. Buying the dip is probably a good idea.
But if Bitcoin is falling while the market is struggling, as happened in the bear market of 2022, the cryptocurrency is likely to see a longer period of decline followed by the doldrums. That’s the sign to initiate a series of purchases for dollar-cost averaging (DCA) and check back in a year or so.
