Research report – BTC market

February 21, 2022

§  Bitcoin (“BTC”) is a Proof-of-Work blockchain that requires validators help validating transactions (hash functions) to support public ledger

§  Validators compete computing power against others in the network for validating hashes, the validation process is called mining

§  Validators are rewarded with BTC for validating the blocks, which is called block rewards

§  Hash rate and halving are the key concepts that drive block rewards and block validation speed, which drives the BTC price

§  Unlike other traditional commodities, BTC supply is determined by mathematical formula

Fundamentals that determine BTC Price – Hash Rate

The fundamental element that drives BTC supply is the hash rate, which is related to the network difficulty (how difficult to validate the hash function). Network difficulty is directly correlated to the total hash rate according to the hash function formula, and the general principle is that the network difficulty gradually increases overtime.

Fundamentals that determine BTC Price – Half-Life

Apart from network difficulty, another key factor that drive BTC price is block reward. Half-life is a primary feature of BTC’s Proof-of-Work mechanism, where block rewards are halved every four years. This is a very important concept, and we will assess the impact of halving to BTC price in further details below.

 What shall we expect in and after Half-life

Under BTC’s PoW mechanism, BTC would experience a half-life in 2024, meaning that miners’ block rewards would be halved to 3.125BTC per block (currently 6.25BTC).

It is interesting that BTC price has experienced a bull run at every “Halving Cycles”. The bull run in 2012 lasted for 372 days, BTC price surged from US$15 to US$512 (peaked at US$1,217), while 2016’s bull run lasted 526 days, the price jumped from US$647 to US$3,276 (peaked at US$19,800). In latest 2020 halving, BTC price also surged from $8,787 to $50,000 (peaked at $67,000).

The bull run could be explained by price discovery by the market on BTC’s scarcity. We observe that BTC price fits closest to the stock-to-flow model at year of half-life and after.

Where we are currently

The market demand for BTC is currently very low, and it can be demonstrated from AAVE[2] and Curve’s funding rate. We can understand AAVE and Curve funding rate as the risk-free rate in the crypto world. The funding rate is driven by the propensity to borrow and lend in the market.

With only 2.7% of the BTC pool being utilized, we think that the current BTC market is currently underwhelmed. This is largely due to its non-interoperability with other chains, compared to USDT[3] and DAI. The current funding rate of USDT and DAI are 1.97% and 2.25%, meaning that market is more attracted to holding and lending stable coin.

*Data extracted as of 21st February 2022

Halve life pattern – Formula don’t lie

Based on our fundamental analysis on BTC half life, I reckon that the earliest bull run shall come in early 2024. Another observation is that BTC market share falls gradually to less than 30%. Despite the upside in each bull run seems less than the one before, this is primarily due to rapid expansion in other crypto ecosystems. The rapid growth in Ethereum and other alternative layer 1 have demonstrated robust growth in the latest bull run, and we view that expansion of other ecosystem is a healthy phenomenon to the crypto industry as a whole.

Data Source: Bitfinex

[1] Source: Blockchain.com; Bitfinex

[2] AAVE is the largest lending defi protocol; Curve is the largest decentralized liquidity pool for stablecoin trading 

[3] USDT and DAI are the two largest stable coin circulated by market cap.

- jhdegen

Research report – BTC market

February 21, 2022

§  Bitcoin (“BTC”) is a Proof-of-Work blockchain that requires validators help validating transactions (hash functions) to support public ledger

§  Validators compete computing power against others in the network for validating hashes, the validation process is called mining

§  Validators are rewarded with BTC for validating the blocks, which is called block rewards

§  Hash rate and halving are the key concepts that drive block rewards and block validation speed, which drives the BTC price

§  Unlike other traditional commodities, BTC supply is determined by mathematical formula

Fundamentals that determine BTC Price – Hash Rate

The fundamental element that drives BTC supply is the hash rate, which is related to the network difficulty (how difficult to validate the hash function). Network difficulty is directly correlated to the total hash rate according to the hash function formula, and the general principle is that the network difficulty gradually increases overtime.

Fundamentals that determine BTC Price – Half-Life

Apart from network difficulty, another key factor that drive BTC price is block reward. Half-life is a primary feature of BTC’s Proof-of-Work mechanism, where block rewards are halved every four years. This is a very important concept, and we will assess the impact of halving to BTC price in further details below.

 What shall we expect in and after Half-life

Under BTC’s PoW mechanism, BTC would experience a half-life in 2024, meaning that miners’ block rewards would be halved to 3.125BTC per block (currently 6.25BTC).

It is interesting that BTC price has experienced a bull run at every “Halving Cycles”. The bull run in 2012 lasted for 372 days, BTC price surged from US$15 to US$512 (peaked at US$1,217), while 2016’s bull run lasted 526 days, the price jumped from US$647 to US$3,276 (peaked at US$19,800). In latest 2020 halving, BTC price also surged from $8,787 to $50,000 (peaked at $67,000).

The bull run could be explained by price discovery by the market on BTC’s scarcity. We observe that BTC price fits closest to the stock-to-flow model at year of half-life and after.

Where we are currently

The market demand for BTC is currently very low, and it can be demonstrated from AAVE[2] and Curve’s funding rate. We can understand AAVE and Curve funding rate as the risk-free rate in the crypto world. The funding rate is driven by the propensity to borrow and lend in the market.

With only 2.7% of the BTC pool being utilized, we think that the current BTC market is currently underwhelmed. This is largely due to its non-interoperability with other chains, compared to USDT[3] and DAI. The current funding rate of USDT and DAI are 1.97% and 2.25%, meaning that market is more attracted to holding and lending stable coin.

*Data extracted as of 21st February 2022

Halve life pattern – Formula don’t lie

Based on our fundamental analysis on BTC half life, I reckon that the earliest bull run shall come in early 2024. Another observation is that BTC market share falls gradually to less than 30%. Despite the upside in each bull run seems less than the one before, this is primarily due to rapid expansion in other crypto ecosystems. The rapid growth in Ethereum and other alternative layer 1 have demonstrated robust growth in the latest bull run, and we view that expansion of other ecosystem is a healthy phenomenon to the crypto industry as a whole.

Data Source: Bitfinex

[1] Source: Blockchain.com; Bitfinex

[2] AAVE is the largest lending defi protocol; Curve is the largest decentralized liquidity pool for stablecoin trading 

[3] USDT and DAI are the two largest stable coin circulated by market cap.

- jhdegen