When I wrote a couple of weeks ago that Bitcoin’s value in U.S. dollars (BTC/USD) could fall into a new, lower range before stabilizing in the early part of this year, I kind of assumed it would take more than a couple of trading days. Heavy selling at the start of the year, however, pushed BTC/USD below $300 to new 12 month lows.
The selling was most likely prompted, at least in part, by problems at one of the largest exchanges, Bitstamp. There is much speculation as to the cause and possible effects of that outage, but until more is known I will reserve comment and focus on the implications and possible effects of the price movements. On that basis, regardless of the situation at Bitstamp, the next week or two will prove critical for BTC.
Chart from bitcoincharts.com
Logically, of course, there is nothing special about BTC/USD under $300. In fact, if you look at pricing before the spike of 2013, it could be argued that there is still further to fall before stability is achieved. That run up to $1100 launched from a base of around $125. If we assume that that level represented fair value at that time then we can, in a very rough way estimate fair value now.
Since then the Fed, through QE has added about $1 trillion to the economy which, again very roughly, amounts to a 10 percent increase in money supply as measured by M0. In effect they have devalued the dollar by 10 percent. Yes, I know the dollar has trended higher in that time against other currencies, but that is more to do with Euro and Yen weakness than anything. The total Bitcoin in circulation has also increased in that time, but so has acceptance and utility of the virtual currency. If we assume that those two things cancel each other out, then BTC/USD somewhere around $140 would represent a return to pre-bubble levels.
Obviously, that estimate involves a whole bunch of assumptions and is questionable at best, but the point is that the drop doesn’t necessarily represent a crisis in Bitcoin; it may just be part of the return to fair value. With the level of acceptance increasing at such a fast rate, however, if Bitcoin is to retain credibility in the short term some degree of stability is needed at around these levels. Yesterday’s bounce back from the lows gives hope, but caution is still advisable.
If we turn tail again and break back through $250, then it would be logical to conclude that there is no added value and a return to below $200 would look extremely likely. If, on the other hand, that level holds then it will provide a point of support from which a decent rally can be expected. From a swing trader’s perspective going long here with a view to cutting and reversing the position on a drop below $250 looks to be the best strategy.
Of course, to those who see Bitcoin as a game changer in international finance, or as a truly long term store of wealth, none of this matters. They will trust the market to do its thing. As the falling price puts increasing pressure on miners and causes the rate of supply to slow, supply and demand dictates that the price will recover. That assumes, however that demand remains constant or increases and it is that assumption that leads me to describe the current level of BTC/USD as “crucial.”
If the next few weeks see a collapse back down to around $150 it won’t signal the end of Bitcoin as some opponents would have you believe. As stated above, that could be seen as just a return to fair value and therefore a healthy thing. What it would do, however, is reduce confidence to a level that would take years to recover from, regardless of the logical case for virtual currency. For that reason price action over the next few weeks should be watched closely, even by those with no intention of selling.