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I believe that Wednesday, January 10, 2024 will be remembered as an important date for Bitcoin (BTC-USD) and cryptocurrencies in general. The spot Bitcoin ETF was approved by the SEC a pivotal moment that could change a lot for the crypto markets. Bitcoin is long past the age of being owned almost exclusively by IT geeks or alternative investment specialists. Cryptocurrency has come of age.
I think this approval is a game-changer. With the new spot ETFs it is possible to invest in Bitcoin at fees that are just as low as many regular ETFs. In this article, I will outline three things that I believe will change after Bitcoin ETFs are approved.
The approval of the 11 Bitcoin spot ETFs means investors can now own them physically backed ETFs with exposure to Bitcoin. These ETFs have expense ratios between 0.20% and 0.80%, making them comparable in cost to many other regular ETFs. Of course, Bitcoin ETFs backed by futures contracts, such as BITO (FEW) already existed, but their cost is higher. Also the Contango bleeding Investing in these futures-hedged ETFs will eat up a large portion of your investment. With spot ETFs, we finally have a Bitcoin ETF that I consider to be a realistic long-term investment vehicle.
Investing in Bitcoin is sure to become the new normal
Currently, many people own investments in Bitcoin or another cryptocurrency. However, as a regular investment it is generally not supported by pension funds, intermediaries or asset managers. I am currently in my 30s and own Bitcoin myself (in cold storage). I consider myself digitally competent. Many people are not.
The opportunities to invest in cryptocurrencies have already increased dramatically in recent years. Investing in cryptocurrencies rather than Coinbase (COIN) or Robinhood (HOOD) is more likely to be made by the younger generation. People with the most money, on average, belong to an older generation and are also the least interested in or able to make such investments.
But from now on, this wealthy but less digitally literate part of the population will have easy and cheap access to Bitcoin spot ETFs. Additionally, it is increasingly likely that brokerage firms, intermediaries and pension funds will even recommend investing a small percentage of your holdings in Bitcoin, as is the case with gold or real estate.
I believe this will have three possible indirect effects:
1. Volatility is likely to decrease
Cryptocurrency markets are notorious for their volatility. Just take a quick look at the longest chart that YChart would generate for me. I made it logarithmic to better see the percentage increases or decreases during the first few years (a linear chart would look even more volatile). It's obvious that Bitcoin's performance has seen some major ups and downs over the years:
Data from YCharts
Why do I expect this volatility to decrease? Three main reasons:
- With a larger portion of the population investing in Bitcoin and many hedge funds, pension funds and intermediaries also owning assets, the proportion of people owning Bitcoin is increasing. Not only that, the most important thing is that the people who will become new Bitcoin investors will likely be the “late majority”. These individuals are often passive investors who do so through an intermediary or asset manager and are less likely to trade in and out of investments. This will add a buffer for all future movements of Bitcoin up and down.
- Intuitively, ETFs are long-term investments and in my opinion are more likely to be held for a longer period of time than direct investments. The average holding period for individual stocks is 10 months; the average holding period for equity-based ETFs is 2 years. Of course, these statistics are about stocks, but if people hold stock ETFs on average for a longer period of time, then I expect the same to be true for crypto ETFs as well. There is of course the big difference that stock ETFs are often very diversified compared to owning a single stock, but this is not the case with a Bitcoin ETF compared to owning Bitcoin outright. So the evidence here is still sparse, but I still think it's plausible.
- There is less urgency to make quick profits because the new physically backed ETFs have low costs (unlike many alternatives) and low risk of theft. Even though I owned Bitcoin outright, I was always afraid of hacks. At some point I turned to cold storage, but I was always afraid of losing my codes. ETFs simply don't have these drawbacks since you simply purchase them from your broker using the same credentials you use for stocks, making them a safer option.
2. Bitcoin and cryptocurrencies may behave more like an investment category than a single speculative vehicle
This effect is likely due to the first effect, because if investors of any type (institutional investors, individuals, intermediaries, asset managers) who are less likely to buy and sell quickly invest in Bitcoin ETFs, this could lead to a decline lead to volatility. This in turn could lead to different views on the nature of an investment.
In terms of portfolio strategy, many investors own baskets of assets: stocks, bonds, gold, real estate, etc. In the event of underperformance of any of these assets, investors might decide to rebalance their portfolio: sell a few percent here, buy a few percent there. The complete sale of an investment category is also possible, but is much less common. If cryptocurrencies are viewed as a separate investment category, temporary underperformance of this category is likely to be easier to tolerate. Additionally, as volatility falls, these swings will be smaller, making the resulting declines easier to endure. This creates a positive cycle.
However, note that this decrease in volatility (if it occurs) and better stability of the Bitcoin market in the event of price increases will also result in smaller and slower increases in value. Bitcoin won't exactly become a boring investment, but it could be more similar to gold (GLD) in its price behavior. Of course with many differences.
3. Bitcoin could actually be traded as a hedge against inflation/recession
Past data suggests that Bitcoin has predominantly traded in parallel with the stock market, albeit at a very large multiple. This means that Bitcoin has not acted as an inflation or recession hedge at all. On the other hand, it has many properties that would theoretically make it, like gold, an ideal vehicle for hedging against inflation/recession.
But gold is not free from inflation either: more than 3,000 tons of gold are mined every year. Estimates put the total amount of gold “above ground” at nearly 209,000 tons. This means that “gold inflation” is just over 1.4%. While this is not very high, it is still far from zero and will be a significant contributor to potential underperformance in the long term compared to zero inflation assets like Bitcoin.
At the start of the next halving, Bitcoin will have reached block number 840,000. At this point, 93.75% of the maximum amount of Bitcoin has already been mined. So it's easy to calculate the upcoming inflation until 100% is eliminated: (100-93.75) / (93.75/100) = 6.66%. It is estimated that 100% of Bitcoin will be mined around the year 2140, so the expected annual “Bitcoin inflation rate” will be very limited. However, due to the nature of the halvings, the majority of this inflation will take place in the coming years. After the 6th halving, 99.2% of the maximum amount of Bitcoin will have been mined and this is expected to happen in 2032. Bitcoin inflation is already quite low, but after 2032 we can safely assume that it will be close to zero. Add to this some deflation caused by lost tokens, and the ultimate inflation will likely be negative.
Bitcoin is not tied to any nation, government or central bank. It cannot be used as a political tool or in an economic strategy, for example to devalue a currency. Additionally, it is digital and therefore very easy to transport, and liquidity is not an issue. Essentially, Bitcoin appears to be a bulletproof asset. These characteristics make it, on paper, an ideal (fiat) inflation and recession hedge. However, this has not yet been shown in practice.
Now, why do I expect that to change? The same reason as the above two effects: people will start using Bitcoin or cryptocurrencies as a separate investment category in their portfolio management. Most people don't sell an entire category in the event of a (possible) decline. Additionally, I believe that people or institutions who first get into Bitcoin through ETFs will be less likely to use Bitcoin as a trading tool and more as an investment tool. Since economic performance or inflation has little direct impact on Bitcoin's intrinsic value, there are good reasons to believe that it will hold its own even in a recession or a period of high inflation. This won't happen overnight, but I expect this shift to hedge against inflation and recession to be felt over the next decade or so.
Bring away
With the approval of the new physically backed ETFs, I expect Bitcoin to have some interesting upside potential in the coming year as many investors invest in the newly approved products, which are more cost-effective than their alternatives. The upcoming Bitcoin halving is also believed to be a bullish event for Bitcoin.
In the longer term, I expect stronger stabilization and more gold-like price behavior. Bitcoin won't suddenly become a boring investment, but I see the volatility gradually decreasing. Additionally, Bitcoin and cryptocurrencies may behave more as an investment category than as a trading instrument. This also increases stability and reduces fluctuations. Third, Bitcoin could be traded as a hedge against inflation and recession.
But I don't want to spoil the good party: Of course, Bitcoin will continue to experience big booms and big busts. I expect the frequency and size of these cases to decrease solely for the reasons I have explained in this article. However, if you invest in Bitcoin or any other cryptocurrency, you should be aware that they can be very volatile investments. I would never invest in these with borrowed money and would also recommend that everyone not invest more than they are willing to lose: you should be able to survive economically if you lose your entire investment. But if Bitcoin's volatility truly decreases in line with my expectations, I may no longer need to include this disclaimer in future articles.
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