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Understanding Bitcoin

20 January 2021

With the per coin value of Bitcoin hitting $42,000, cryptocurrencies have been making headlines. Giles Coghlan, chief currency analyst, HYCM, looks at the fundamentals and what influences the price of these investments

When it comes to divisive topics within the financial sphere, there is nothing more polarising than discussion about the future of cryptocurrencies.

In one camp, you have “crypto-junkies” who believe we are seeing the birth of global digital reserve currencies that will soon be on par with the financial market’s major cash currencies. As such, they see cryptocurrencies as an investment worth considering amongst both retail and institutional investors given it is set for unprecedented growth.

In the other camp, you have what one may call “crypto-sceptics”. These people are simply not convinced about the long-term viability of cryptocurrencies, pointing to its volatility and sharp price swings, not to mention the lack of regulation, as key concerns. Given the unpredictable nature of cryptocurrencies, sceptics believe investing in digital currencies is similar to gambling.

There is a general view from investors and traders of scepticism surrounding cryptocurrencies. This is not due to their direct opposition of cryptocurrencies but rather their general uncertainty when it comes to anticipating future price movements.

You can imagine, then, that the opening weeks of 2021 have caused quite a stir. The most prominent of the cryptocurrencies – Bitcoin – has soared in value in recent months, smashing through its 2017 highs and hitting $42,000 per Bitcoin in the opening weeks of 2021, up around 300% since early October 2020. At time of writing, the market price per Bitcoin is hovering around $35,000.

A bull or bear market?

The big question now is whether price growth is on the horizon. Some claim the price could surpass $50,000 while others believe we are in for a period of market correction following what many consider to be unsustainable price gains. While there is no clear answer, a useful strategy is determining what factors influence the price of Bitcoin.

Unlike traditional trading assets like stocks and shares, there are a limited number of models available to anticipate cryptocurrency price shifts. Part of the reason why cryptocurrency investment is attractive to some is the volatile nature of the investment. Significant gains can be made in the short-term, though the risk for losses is extremely high.

What factors influence the price of Bitcoin?

It is believed that there are a number of factors driving Bitcoin prices higher. At the moment, market sentiment seems to be positive despite the inflated prices. Institutional investors are now considering the merits of such investments, something that would have been unheard of a few years ago. Part of this has to do with other market trends we are likely to see in 2021, the two most prominent of which are a potential commodity bull cycle and a cheaper US dollar. Both events can help drive the value of Bitcoin higher.

There is also the “halvening” event to keep in mind. Occurring every four years, halvening refers to when the number of new bitcoins minted per block is cut in half. It essentially reduces supply, which naturally can lead to price growth should demand suddenly peak. The most recent halvening event occurred last year, suggesting that the market is adjusting to less supply.

Finally, with governments around the globe considering significant fiscal and monetary stimulus to instigate post-pandemic economic reform, currency inflation could see investors retreating to safe haven assets and hard assets – like gold, Bitcoin and industrial metals.

Understanding the fundamentals

For investors and traders considering an investment into Bitcoin, they must keep in mind that this is a highly volatile asset class with no leverage. What’s more, it is important not to be allured by the media hype surrounding cryptocurrencies but instead consider the investment as part of a long-term investment strategy. If you are looking to make long-term gains, be sure not to make rash buying or selling decisions based on sudden price swings. If you are considering short to medium term gains, investors must be actively watching the market and have clearly defined sell and buy exit prices.

Cryptocurrencies are not available for trading under HYCM (Europe) Ltd and Henyep Capital Markets (UK) Ltd.

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