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How Low Could Bitcoin Fall If Activity Levels Remain Depressed?
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How Low Could Bitcoin Fall If Activity Levels Remain Depressed?

October was an uneventful period for cryptocurrencies, as a lack of any substantial developments in the industry resulted in the price of most cryptocurrencies largely remaining level for the period. In fact, the price of Bitcoin has remained around the $6,400 mark for nearly two months now – making this the longest stretch of time over which the most popular cryptocurrency remained largely unchanged since it hovered around $1,000 for a three-month period in early 2017. There was a sharp reduction in cryptocurrency trading activity for the month of October, though, with average trading volumes shrinking to below $260 billion a day for the period – a far cry from the average figure of over $2.1 trillion dollars a day at its peak in December 2017, and the lowest level in more than a year. Notably, the total trading volume fell despite a small increase in the number of unique addresses for the month – leading to a sharper decline in average transaction volume per unique address compared to August 2018.

This trend can be explained by the fact that investors remain optimistic about a surge in Bitcoin prices from the SEC potentially clearing the first Bitcoin ETF over coming months. The anticipation of large gains with a limited downside has helped the number of Bitcoin users increase steadily over the last five months, even as the ensuing buy-and-hold strategy followed by most investors resulted in Bitcoin pricing fluctuating very little.

As we detail in our interactive Bitcoin Price Estimator, the SEC’s decision to green-light a Bitcoin ETF could potentially help Bitcoin prices rocket past the peak level of $20,000 they reached last December in the coming months. At the same time, if the SEC decides against allowing Bitcoin ETFs, Bitcoin pricing could sink to below $4,000, as this appears to be a fair price for the cryptocurrency based on the current number of users and activity levels (representing a downside of ~35%).

The graphic below captures our base case forecast for the monthly average price of Bitcoin through 2019 based on our estimates for transaction volume and number of Bitcoin users, and also shows a possible price range for the cryptocurrency taking into account bullish and bearish outlooks for the period.

What Drives The Price Of Bitcoin?

Like the price for anything, Bitcoin’s fundamental price depends primarily on demand and supply. Demand for Bitcoin is primarily driven by two factors: the number of active users, and how much they transact. On the supply side, the number of available Bitcoins is capped, and about 80% of the capped number is already mined. As such, it is sensible to focus on the demand, both in terms of users and transaction volumes.

This also makes sense given the fact that Bitcoin prices over the years have primarily been driven by the perception of how a particular piece of news boosts or hurts the potential number of Bitcoin users and their transaction volume in the long run. This has held true since Bitcoin was first introduced, barring the last few months of 2017 when the media euphoria surrounding cryptocurrencies drove Bitcoin prices to an all-time high of almost $20,000. Although Bitcoin prices are susceptible to extreme volatility, they have largely moved in tandem with news that signaled either increased adoption in the future – like Goldman’s original decision to set up a cryptocurrency trading desk and IntercontinentalExchange’s ongoing work on a new trading platform that supports cryptocurrencies – or setbacks in terms of long-term adoption, like a cyber-attack on two South Korean Bitcoin exchanges in June followed by the SEC more recently rejecting plans for a Bitcoin ETF.

In our interactive Bitcoin Price Estimator, we forecast changes in the number of unique users as well as transaction volumes for each month through mid-2019 to arrive at our estimate for Bitcoin’s fundamental value. This video shows how to leverage our bitcoin pricing dashboard. While the dashboard looks fairly basic, in back-testing – a method to see how well it could have predicted prices in the past – it was almost 94% accurate.

But Why All The Fuss About Bitcoin ETFs?

As we point out above, the value of a Bitcoin is essentially linked to its demand among investors. While the blockchain technology has proven its usefulness in revamping key financial services, a particular cryptocurrency and token in itself does not have much use unless a sufficiently large base of investors believe it can be used to a store of value (like gold) or for transacting (like a regular currency). While several global investment banks are working on limited offerings in the nascent cryptocurrency industry, the single biggest factor that can boost their acceptance as a mainstream investment option is the launch of a Bitcoin ETF. While trading support by investment banks can help institutional investors enter the industry more efficiently, ETFs would boost the addressable user base by a much bigger margin by potentially allowing retail investors to also invest in cryptocurrencies. This would explain why investors are pinning many of their hopes for the future of the industry on the SEC’s decision to allow these ETFs.

Although the SEC rejected several proposals for Bitcoin ETFs earlier this year, it has softened its stance towards the industry in a series of steps over recent months. It is reviewing the proposals again, and also invited investor opinions about the pros and cons of a Bitcoin-linked ETF which could very likely be the first Bitcoin ETF. As we show in the chart below, the SEC’s action (or lack thereof) over the next few months can make all the difference between Bitcoin price falling to below $4,000, or shooting past $30,000 by triggering changes in the number of Bitcoin users and the total transaction volume. The thick grey lines below represent the base case scenario, while the blue and green lines represent the upside and downside scenarios respectively.

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