Bitcoin dropped significantly last week after the Chinese government banned foreign cryptocurrencies in its ongoing attempt to rein in Bitcoin and other cryptocurrencies. The EU is still considering what to do, if anything, about such currencies, while the US Senate appears to be meandering toward supporting Bitcoin or at least regulating it to some limited degree. With the market capitalization of Bitcoin standing at about $115 billion, it appears to be far too large an asset for governments to ignore.
US Senate Hearing
Last week before the US Senate Banking, Housing and Urban Affairs Committee Securities and Exchange Commission Chairman (SEC) Jay Clayton and Commodities Futures Trading Commission (CFTC) Chairman Christopher Giancarlo debated “what can be regulated, what should be regulated and how, while offering a broader outlook on the long-term future of virtual currency markets and blockchain technology.”
The testimony outlined the three parts of cryptocurrency: cryptocurrencies, which could replace dollars; initial coin offerings (ICOs), which are like a stock offering; and distributed ledger technologies, which is the technical system usually referred to as blockchain.
The SEC’s Clayton testified about fraud concerns related to ICOs, while the CFTC’s Giancarlo focused more on the potential of the emerging cryptocurrency market. Giancarlo defended the value of Bitcoin, explaining how Bitcoin is mined and how that process correlates with price at certain times. Clayton was unconvinced: “There are a lot of smart people who think there’s something to the value of cryptocurrency and the international exchange and I’m not seeing those benefits manifesting themselves in the market yet. I look at this from the perspective of Main Street investors and they should understand that.” Clayton also mentioned market volatility, which makes using Bitcoin as a currency extremely questionable.
Giancarlo said that the CFTC could use past data to analyze Bitcoin trading to be able to detect instances of fraud and manipulation in the future.
Both chairs commented on concerns about the unregulated nature of cryptocurrency exchanges and the possibility that investors might be misled into believing that such exchanges were regulated. Giancarlo warned, “To be clear, the CFTC does not regulate the dozens of virtual currency trading platforms here and abroad.” The CFTC does not require that such exchanges have cyber protection or platform safeguards, which are required for other exchanges.
Clayton recommended that various agencies coordinate to attempt to better inform investors about unregulated trading platforms. He said, “I think our Main Street investors look at these virtual currency platforms and assume they are regulated in the same way that a stock is regulated and, as I said, it’s far from that and I think we should address that.”
In relation to ICO’s, Clayton said, “I believe every ICO I’ve seen is a security… You can call it a coin but if it functions as a security, it is a security… Those who engage in semantic gymnastics or elaborate restructuring exercises in an effort to avoid having a coin be a security are squarely in the crosshairs of our enforcement provision.”
Senator Mark Warner called for a more “coordinated effort” to regulate cryptocurrencies, which both chairs supported. Warner was optimistic about the future of such currencies. He said, “The potential writ large amongst crypto assets and the underlying blockchain could be as transformational as wireless was years ago. I think we’re going to need a much more coordinated effort.”
The focus of the hearings seemed to be far from any doomsday scenario for cryptocurrencies, instead focusing on regulating away the worst excesses of fraud, theft, and manipulation from the cryptocurrency markets.
The market liked the hearing; Bitcoin jumped up to $7,650 on Tuesday after falling below $6,000 the day before.
Bitcoin, The Dollar, And Gold: An Intra-Market Relationship
Based on my analysis of the relationship between Bitcoin, the US dollar index (DXY) and gold, I feel that there is a very close relationship between these three assets. Bitcoin has become a challenge to the price of gold and the US dollar as a fiat currency. If we look at the weekly chart going back to November 2015, the price of gold at that time had bottomed at a low of $1046, Bitcoin was over $1,000 and the dollar topped out at a high of 98.34. The price of gold then rallied to about $1371.80 in July 2016. Bitcoin went up to $1638, surpassing the price of gold at $1356.60.
From roughly September 2016, the US dollar index rallied to a high of 101.19, while the price of gold collapsed again to a low of about $1124 and Bitcoin corrected down to $966. From January 2017, the dollar began to collapse to the current levels last week of 88.25.
The price of gold rose from the low in December 2016 of about $1127 to the high we saw in September 2017 of $1362. Bitcoin, once it crossed the value of gold, exploded to the upside, establishing itself as a world-class asset, reaching a high of about $20,000 on December 25, 2018, while the US dollar made a new low of 88.25. Gold then held steady around $1350 levels with a recent high in January 2018 of $1370.50.
The key is to define whether Bitcoin is a currency or a commodity. It appears that Bitcoin has elements of a security, commodity and a currency. The unclear metrics that we are beginning to define more clearly are related to the question of where the equilibrium of Bitcoin, or the mean or average price in relation to gold and the US dollar rests.
It is clear that Bitcoin has established itself as a world asset and even though we have seen a roughly 60% correction since the December highs when you look at the tremendous growth in Bitcoin since its inception, the rate of return exceeds anywhere from 35,000%, a historic benchmark that has been set. Bitcoin appears to be one part currency and one part commodity.
One of the major concerns that regulators have right now according to the US banking committee meeting hearing is whether cryptocurrency technology is being used in black market transactions or to avoid US sanctions. It is clear that the application of blockchain technology is what is behind this incredible move in the price of Bitcoin. I believe that Bitcoin, once the dust settles, will still be around, as opposed to all of the other crypto-exchanges that have appeared.
One has to be cautious about how these exchanges are representing themselves. The majority of them are completely fraudulent. It is no surprise that as we enter into this new class of assets, which within two years could explode to exceed $25 or $30 Trillion in market cap, is causing regulators great concern. They are beginning to try to understand the mechanics and logistics of the cryptocurrency world by adding personnel to study the market. They are just beginning to learn themselves about the new market, so I question how competent and capable they will be able to regulate this phenomenon in the near future.
A Fed Cryptocurrency?
As this technology spreads, I believe it is a transformational technology. It is leading toward a transparent price discovery process, and we can probably use the same technology to manage inventory and people, while avoiding the fraudulent processes of the middlemen who often are involved in these transactions.
It is my belief that as Bitcoin begins to gain more respectability, supported by the US Congress, what we are headed toward is that, as the government recognizes it as a currency, there is a strong possibility that the Federal Reserve might introduce a crypto Federal Reserve coin to challenge Bitcoin and the new technology, blockchain.
For the US dollar, we expect it to continue to decline into May and any rallies over the short term, into the 91/92 area should be sold, since we expect to see a tremendous amount of supply coming into the market at those levels.
With regard to Bitcoin, it appears that the market has found a level of support as we corrected below $10,000, making a low of $9901 on January 22. If these levels hold, it could serve as the base for the next leg up, which potentially could test what we have identified so far as the mean or average price of bitcoin, which is at about $13,000. When we look at bitcoin trading at $10,866, it appears that the price is at the extreme below the mean of the relative implied volatility, which offers a better than 95% probability that a reversion will occur back up to the mean of $13,000.
Gold S&D weekly levels
In relation to the supply and demand factors for gold coming into this coming week, on February 9, gold closed at $1316. We used our Variable Changing Price Momentum Indicator (VC PMI) to analyze gold for the coming week. The first filter – the trend momentum indicator, which is at $1319 – indicates that the market is bearish coming into this week. But our VC PMI algorithm also tells us that if gold closes above $1319, it would negate this bearish short-term trend to neutral. This is the first level, if you short the market, that you can use as a reversal pivot point to identify when the market may turn neutral from bearish.
The second filter is the weekly VC PMI, the average price for next week. Gold closed at $1316 Friday, below the $1325 average price, indicating that we are coming into this week bearish. But it also tells us that if gold closes above $1325, it would negate this bearishness to neutral.
Once we extrapolate the average price, we can identify the extreme above and below the mean. By closing below $1325, the gold market has activated a signal to exit short positions between $1300 and $1285, and reverse and go long. If you go long, you can place your stop at $1285. If the market comes back up above $1300 and through $1300, your target will be $1325. A second close above $1325 activates a signal for you to exit your long positions at $1340 to $1365. The VC PMI algorithm clearly identifies where to cover short positions and reverse and go long, and where to put stops as well as your target.
As we come into next week, the price action of the market will validate what we are beginning to see is an oversold condition in most commodity assets, which include the harmonic relationship between the daily, weekly and monthly trends. When we identify this relationship, which is unusual, we get a strong confirmation that prices have come down to an alignment of price and time. As we move forward, what will drive prices will be the supply and demand volume that we get when we identify the extremes above and below the mean.
If we see a correction in the price of gold to the low of $1300 or so, it is a great opportunity to add to the long side, even though we have seen a correction a little deeper, we still have the market trading the 9-day moving average of $1319, above the 18-day moving average of $1303 – which is a solid level of support and coincides with the first level of demand at $1300. A close above $1319 confirms the resumption of the uptrend with a target of $1325, and targets at the upper end of the extreme above the mean of $1340 to $1365. I believe that when this cycle is completed, gold will retest the high of $1365 over the near term.
Disclaimer: The information in the Market Commentaries was obtained from sources believed to be reliable, but we do not guarantee its accuracy. Neither the information nor any opinion expressed herein constitutes a solicitation of the purchase or sale of any futures or options contracts. This report is for educational purposes only.
Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
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