Rehashed #38 - JP Morgan Crypto Report Recap: The Good, the Bad, and the Ugly
Last week, JP Morgan’s Global Research team published a report revisiting adoption, performance and challenges in crypto. Of note is the report’s estimation of an intrinsic value for Bitcoin, based on the marginal cost of production. Based on 4Q18 production costs for miners with low cost electricity, the report assessed Bitcoin’s cost support at $2400/BTC and could fall to $1,260/BTC if the bear market persists. These projections suggest that the market has the bandwidth for a further 30-60% fall in prices, which aligns with some fundamental and technical indicators.
The Good: Bitcoin confirms low correlation with traditional assets
Bitcoin’s correlation over the past year with all other markets has been close to zero, which would seem to position it better than the yen or gold for hedging purposes. Further, Bitcoin’s co-movement with some markets like US equities and Emerging Market bonds has risen slightly over the past year but remains quite low. It must be noted, however, that low correlations have little value if the hedge asset itself is in a bear market. JP Morgan notes that during the S&P 500’s 10 worst months of the past 5 years, Bitcoin has only rallied twice. In six other instances, its losses were often multiples of those in equities. Thus, the report reasons that perhaps crypto would only be of any value in a “dystopian scenario” where investors lost faith in gold, the dollar and the global payments system.
The chart below depicts the correlation between bitcoin and major asset classes, including conventional hedges (Treasuries, TIPS, gold, yen) to highlight cryptocurrencies’ diversification value.
Source: J.P. Morgan, Bloomberg
The Bad: Institutional adoption expectations revised
Aside from venture capital, financial institutions e.g. pension funds and asset managers have largely stayed clear of crypto, with most worried about volatility, security flaws and regulation. Lack of institutional participation is marked by the deterioration of trading volumes and liquidity, with a collapse in daily median transaction sizes to only $130 from a peak of around $5,000 in early 2018. Futures volumes as a proportion of trading volumes on bitcoin exchanges has declined to below 1%, the lowest level since the beginning of the year and well below the 10% high seen in the summer of 2018.
Despite the current lack of interest from institutions, there are still signs of progress. Fidelity launches their custodial solution next month and product development at ICE/Bakkt and Nasdaq should further advance trading and infrastructure over the next couple of years.
The Ugly: Retail acceptance of cryptocurrency remains challenged
Crypto continues to suffer from limited merchant acceptance. Many of the major merchants that accepted cryptocurrency payments a year ago continue to do so (Microsoft, Overstock, etc.), however many operators (Expedia, OKCupid) have discontinued crypto acceptance, largely due to transaction complexity and currency volatility.
The most significant loss was payment processor Stripe who stopped accepting Bitcoin in April 2018. According to a blog post written by Stripe product manager Tom Karlo, “Bitcoin has evolved to become better-suited to being an asset than being a means of exchange,” due to currency volatility and high transaction failure rates. Perhaps developments in the Lightning Network will help mitigate such challenges; in BTC Lightning payments tested this week, 122 participants made individual payments totalling 1.6 BTC (~$5,500) in 36 countries for a grand total fee of $.018.
2018 wasn’t a complete dud
Despite increasing skepticism from JP Morgan and the persistent price correction, there are many promising metrics out that suggest crypto should not be completely disparaged. Total value processed on the bitcoin network continues to make gains with $3.2 trillion processed on Bitcoin in 2018, up from $375 billion in 2017. Bitcoin continues to see high demand in emerging economies; last week saw near all-time high peer-to-peer trading volumes in Colombia, Mexico, Dominican Republic, Venezuela, Nigeria, Peru, Russia, Ukraine, Morocco, and Kazakhstan among others. Lastly, Bitcoin mining increases demand for the cheapest electricity available; BTC currently uses ~80% renewable energy. China curtailed roughly 80TWh of wind/solar/hydro energy in 2017 due to overproduction- enough electricity to power New Zealand for 5 years. This will remain a big opportunity for miners to harness.
In the News
CEO of Twitter and Square, Jack Dorsey, reiterated his conviction in Bitcoin.
In a letter to its customers, crypto-exchange QuadrigaCX stated its efforts to locate the exchange's cold wallets have failed after the CEO and founder died in December 2018. Such an event cautions against keeping crypto on exchanges and stresses the importance of holding onto one’s own private keys.
A recent report by the Bank for International Settlements’ (BIS) Principal Economist, Raphael Auer, discusses the unsustainable economics of Bitcoin’s proof of work and concludes that it is destined to fail.
Wrapped BTC, a new Ethereum-based token whose value is backed one-to-one with Bitcoin, is now live.
Nasdaq is now working with 7 crypto exchanges, who are leveraging their trade surveillance technology.
As always, thanks for joining - see you next week for Rehashed.
About the author:
Capital markets to crypto convert. From Christchurch → Boston → New York, Freddie became intrigued by the potential of the digital asset economy after plucking a book on Bitcoin off a New York library bookshelf in 2016. Her parents are thrilled that she is chasing magic money on the internet.
Disclaimer: The above references an opinion and is for informational purposes only. The opinions expressed by the author do not represent the opinion of BitPrime.