The price of Bitcoin isn’t just down to technical analysis


Bitcoin, despite its high public profile, remains in the realms of the wild west when it comes to deciding whether to invest in it.

However, the original cryptocurrency is now a firm favourite of the market’s technical analysts, which shows that the appetite for crypto-based asset trading has definitely grown among investors.

It is so popular, in fact, that most of the major spread-betting platform operators such as IG Group Holdings PLC (LON:IGG), Plus500 Ltd (LON:PLUS) and among others all offer punters the chance to bet on the Bitcoin market.

In many ways, Bitcoin is the ultimate speculative asset, backed by no central authority and seemingly with no intrinsic worth that can be calculated by number-crunching – although some would argue with this point (of which, more anon).

Instead, the price of Bitcoin hinges solely on whether traders think there’s money to be made, or lost, in a cycle of massive highs and crushing lows.

In short, technical analysts who plot a perceived trajectory using concepts like moving averages, support and resistance levels can be big influencers when it comes to decision-making among crypto investors.

However, it would be incorrect to assume that Bitcoin and other cryptos are removed from fundamental analysis, the other school of valuing traded assets.

Unlike technical analysis, which tries to work out the trajectory of an asset price based on historical price data and trading volumes, fundamental analysis (much like the name suggests) takes a more granular approach and looks to work out an underlying value.

The fundamental method involves investigating things like the state of a country’s economy, factoring in things like bond yields and the fluctuations of fiat currencies, or, in the case of listed stocks, companies’ profit and loss accounts and balance sheets.

But how can this be possible for Bitcoin when it has no central authority or entity to back up its value?

The answer, according to some crypto analysts, is that Bitcoin does, in fact, have fundamental elements, but, like the decentralised nature of the blockchain system itself, they are very diffuse.

In an article authored in December 2018, independent crypto analyst Hans Hauge said Bitcoin has a number of intangible elements that can be used to calculate its fundamental value.

One example is research and development (R&D), a key intangible when valuing companies; think how stocks in the pharmaceutical sector can rise and fall based on the status of drugs they are developing.

A similar approach can work for Bitcoin, except its R&D tends to happen in the open, rather than in a company laboratory somewhere, due to the open-source nature of the blockchain system.

Hauge cited data from Google Scholar, an online index of academic literature, which showed that the number of scholarly articles written about Bitcoin had jumped from less than 1,000 in 2010 to around 14,000 by 2018.

While Hauge said the measurement was “simplistic”, it did indicate that an increasing amount of brainpower was being focused on the development of Bitcoin, increasing the chances of new breakthroughs in the technology.

Another, perhaps more important, way of valuing Bitcoin fundamentally is its underlying blockchain network, which includes Bitcoin ‘miners’, which secure the network by validating transactions, and the users which give the cryptocurrency its value by using it as a medium of exchange.

In terms of network security, Hauge said that Bitcoin was “very resistant” to being influenced by bad actors due to the sheer amount of computing power required to affect it. As a result, the network encouraged participants to act in its best interests as there is almost no way to engage with it otherwise.

Meanwhile, the influence of the user base on Bitcoin’s value is worked out using Metcalfe’s Law, a concept that says that the value of a network can be derived by the number of users.

This was validated in a 2015 paper published by the Journal of Computer Science and Technology, which showed that as the number of monthly active users on social networking site Facebook increased, so too did its revenues in an almost direct correlation.

Therefore, as the number of active users on the Bitcoin network increases, it can be expected that the value of Bitcoin itself will increase.

However, this doesn’t mean that the price is immune from corrections, as has been seen with Bitcoin’s recent swings.

More than the hype?

Overall, while there are some fundamentals underpinning the growth in the price of Bitcoin, it seems that the market will remain mostly under the influence of technical analysts, at least in the short-term.

Perhaps the biggest factor behind the dominance of the technical school is that cryptocurrency is a new field, and as such has very little detailed research or case studies to underpin its valuation on a fundamental level.

This also explains why Bitcoin is often the bellwether of the sector, as being the oldest cryptocurrency it has had the most time to accumulate data for analysis, although as it is only 11 years old that doesn’t mean much in the wider world of asset pricing.

However, as crypto becomes a more mainstream and accepted asset class, particularly with tech giants like Facebook getting in on the act with its Libra cryptocurrency, the reliance of traders on technical charting alone may not last for much longer.

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