Bitcoin: Correlated or Uncorrelated?

August 31, 2021 | 

Bitcoin: Correlated or Uncorrelated?

For most of its existence, Bitcoin had been regarded as an uncorrelated asset. This was primarily due to the small size of the community of people that were using it regularly. As Bitcoin’s popularity continues to grow, its correlation with the stock and gold markets, in terms of price movements, is also growing. After BTC’s explosive moves in the first quarter of 2021, it’s time for a closer look to determine if the largest cryptocurrency is becoming more correlated with legacy markets.

As the matter stands, trading of cryptocurrencies is not going away any time soon. To add to its charm, it is already evident that demand to buy Bitcoin is escalating, even to the point that it is more correlated with stocks than ever before.

This is not a fluke, let alone an anomaly as some traders might assume. A number of analysts believe that this is a natural progression in the markets. While this is the case, analysts are still wary of declaring that BTC has a solid correlation with Gold. leading many to think twice in the decision of whether or not they should buy Bitcoin as a hedge against inflation.

Bitcoin and the Stock Market

While many simply assumed that Bitcoin was not correlated with legacy financial markets for its first 10 years of trading, data gathered by VanEck earlier this year backs up that claim. According to the data provided, there were no comparable patterns that pointed to a correlation between Bitcoin and legacy markets from 2013 through 2019.

The shift toward increased correlations between Bitcoin and the stock and gold markets was kicked off in 2020 and has continued into the third quarter of 2021. There are a few reasons to point to that help explain why Bitcoin is becoming closely tied to the movements of the stock market. On one hand, participants trading in crypto markets began trading stocks more frequently and the typical big-money players on Wall Street began diving heavily into cryptocurrencies like Bitcoin.

To start, a large inflow of institutional investors created momentum that drove billions of dollars from legacy markets into the crypto markets. These funds primarily went into BTC spot and futures positions. On the flip side, the rise of meme stocks and r/wallstreetbets trading enticed a large portion of cryptocurrency traders to reenter the market for stocks. Meme stocks like GME and AMC experienced similar levels of volatility that is seen in the cryptocurrency markets. That created an incentive for crypto traders to move funds over to stocks. As investor funds continue to be dispersed more evenly throughout the cryptocurrency and stock market, it’s natural for the price movements between them to be more correlated.

Bitcoin and Gold

Bitcoin: Correlated or Uncorrelated?

With both Bitcoin and gold trending upward in 2020 and 2021, it’s fair to say that they were more correlated now than ever before. However, analysts believe that bitcoin and gold are more likely to have a negative correlation.

Oliver Renick from TD Ameritrade describes Bitcoin as “digital copper”. This stands in contrast to proponents of Bitcoin that have likened it to “digital gold”. Renick draws the comparison to copper instead of gold due to the reasons that people trade and invest in them. Copper and Bitcoin are traded as risk-on assets while gold is generally seen as a risk-off asset. Speculators prefer to buy risk-on assets like copper and Bitcoin when markets are trending up but change their preference to buying risk-off assets such as gold when markets are losing steam.

Brandon Dallmann, chief marketing officer at Unizen, also sees fundamental disparities between gold and Bitcoin. Saying that, “Bitcoin’s current volatility indeed prevents it from being a stable store of value. Also, gold’s price tends to rise when other assets depreciate, and Bitcoin doesn’t show such a stable up-down trend.”

This is good news for the volatility traders that flock to Bitcoin for its wild price swings. If the digital asset were to carry more gold-like characteristics, it would likely trade with more stability.

Bitcoin Correlation Takeaways

It is undeniable that there is a brewing relationship between BTC, Gold, and Stocks. But to say that there is a direct correlation between BTC and Gold might be a stretch. The claim can not yet be sufficed by market data. However, there is a growing correlation between bitcoin and stocks that should not be ignored.

But, as the old saying goes, “correlation does not imply causation”. In this case, the quote points to the possibility that Bitcoin’s price movements can diverge from the stock market at any point. For now, causation is mostly a one-way street with stock market movements having visible effects on the price of Bitcoin. Conversely, there’s no evidence to suggest that movements in the cryptocurrency market have spilled into the equity markets.

No matter what lies ahead for cryptocurrency price movements, market data today strongly suggests that crypto and legacy markets are connected in a way that we haven’t seen in previous market cycles.

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