As a still nascent asset class – it first sprung onto the scene in 2009 – Bitcoin doesn't have nearly the track record of bonds, commodities, equities and other traditional investment vehicles.
To some extent, the cryptocurrency's status as an “infant” financial asset makes fundamental analysis tricky. And by virtue of Bitcoin being young relative to the aforementioned asset classes, advisors, by no fault of their own, lack suitable framework for applying traditional fundamental metrics to the digital coin.
To date, one of the most oft-used fundamental tactics with Bitcoin is the classic commodities treatment of supply and demand. It makes some sense. After all, Bitcoin supply is truly limited. Stipulated in its code, there will be just 21 million Bitcoin mined. That's it. For those keeping score at home, there are approximately 2.5 million Bitcoin left to be mined before the cap is hit.
“It's worth noting that it is projected to take more than 100 years before the Bitcoin network mines its very last token,” according to Investopedia. “In actuality, as the year 2140 approaches, miners will likely spend years receiving rewards that are actually just tiny portions of the final bitcoin to be mined. The dramatic decrease in reward size may mean that the mining process will shift entirely well before the 2140 deadline.”
More Credible Fundamental Analysis
Alright, so its unlikely anyone reading this article in 2021 will be around in 2140, but that doesn't solve the Bitcoin fundamental analysis conundrum facing advisors.
Nor does it help advisors to better serve clients, many of whom are champing at the bit for more cryptocurrency advice. Fortunately, there's some relief in sight thanks to the concept of on-chain data.
“Based on on-chain data, investors can assess the variability of demand, and its likely impact on price, by analyzing the behavior of bitcoin buyers and sellers at any point in time,” writes ARK Invest analyst Yassine Elmandjra. “Investors can leverage Bitcoin’s on-chain data to assess the economic behavior—including inflows, outflows, holding patterns, and cost bases—of all market participants. It tracks each participant on-chain using simple address-based heuristics.”
A simple way of explaining on-chain data is that it provides a glimpse into all three contributing elements of the increasingly robus Bitcoin market – miners, exchanges and holders/investors/users.
“We believe the on-chain behavior of buyers and sellers can help investors identify bitcoin price inefficiencies,” notes Elmandjra. “As described in the next section, several metrics can monitor the behavior of buyers and sellers. From these metrics, we can derive relative valuation metrics that identify short- to mid-term inefficiencies in bitcoin’s price.”
On-Chain Adds Depth
It's often said that in financial markets, price is the only reliable truth. Bitcoin isn't an exception. While the roughly $60,000 it transacts at today seems lofty – maybe it is, maybe it isn't – that's the price buyers are willing to pay. Couple that with the inevitability of dwindling supply and a rising adoption case and price provides even more truth.
However, there are some complexities with Bitcoin that other assets lack and those issues highlight the efficacy of on-chain analysis. Those include realized profits and losses – a gauge of Bitcoin floating around in the market that investors are either up or down on – and supply that's in the green or red.
“Today, the supply of bitcoin in profit is almost at an all-time high and supply in loss is at lows not seen since late 2017,” according to Elmandjra. “In addition, whenever the number of bitcoins in loss has equaled or surpassed the number of bitcoins in profit, data suggests that prices have been in a bottoming process.”
These aren't taxing metrics to apply. With some poking around, advisors can bone up on these tactics and introduce the concepts to clients for better Bitcoin outcomes.
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