Should BTC Investors Be Prepared For A Possible Correction?

Despite the notable dip in market value from its all-time high of approximately $64,586, Bitcoin is still one of the strongest performing assets since the Covid-19 pandemic disrupted the global economy. On a year-to-date basis, BTC is up 93%. Over the trailing year, the original cryptocurrency has gained nearly 470%.

The Crypto Market at a Glance

The crypto sector as a whole has delivered remarkable returns for stakeholders. In the last major rally that peaked in late 2017/early 2018, the market capitalization of virtual currencies excluding Bitcoin hit just under $554 billion. In February of this year, the alternative cryptocurrency (altcoin) market breached this record. And at time of writing, the ‘ex-BTC’ crypto market cap is nearly $1.32 trillion.

All told, the cryptocurrency market currently enjoys a valuation of just under $2.4 trillion. To put this into perspective, the GDP of France — the seventh-biggest economy in the world — is $2.58 trillion, whereas the economy just underneath is Brazil, with a $2.05 trillion GDP. Needless to say, this is a stunning display of accrued wealth, handing the crypto market the credibility it has long sought.

Nevertheless, it’s only natural for investors — particularly current prospective buyers — to have some skepticism toward the digital asset sector. It’s not just virtual currencies that are going bonkers. Other asset classes such as U.S. equities have surged to seemingly ridiculous heights. Further, you have the red-hot real estate market in North America that seems unsustainable.

For instance, in some popular metropolitan areas, houses are selling for over $1 million above the asking price. That’s great for the seller but not so much for social and economic stability.

Still, the ace up the sleeve for cryptocurrencies has been the recent involvement of institutional money. As Business Insider detailed, several household names, including big financial firms like Morgan Stanley (NYSE:MS) and JPMorgan Chase (NYSE:JPM) introduced products to their clients that offer varying exposure to cryptocurrencies.

Other major players have directly invested in Bitcoin and other cryptos, putting digital assets on their corporate balance sheets. As well, there are a growing number of celebrities, including billionaire entrepreneur Mark Cuban and legendary rocker Gene Simmons of KISS fame promoting their favorite altcoins.

Therefore, it’s not inconceivable that cryptocurrencies will continue their surge. However, it’s always wise to prepare for the possibility of a correction and manage your portfolio accordingly.

The Science Behind the Bitcoin Price Action

While the vast majority of cryptocurrency advocates view the influx of institutional money as a net positive, a substantial risk that does not get discussed often is that this is also a double-edged sword. Initially, the weight that the institutional players provide buttresses the crypto sector — there’s no denying that. At the same time, the clash of ideologies makes for a worrying setup.

While Bitcoin supporters have long envisioned the mainstreaming of a decentralized economy, the institutional investors that recently jumped aboard likely don’t share that sentiment. It’s safe to say at the very least, it’s not a priority. To them, Bitcoin is merely a means to an end, a way to make money. That’s it.

And what do institutional players hate the most? If you’ve ever watched the classic film Wall Street, losing money drives these elite market participants nuts. But thanks to their sophisticated trading algorithms and other tools, they’re ensuring they come out on top no matter what happens. At the very least, you can bet your bottom dollar that they have their positions covered with layers of stop-loss or stop-limit orders.

In that case, a sudden loss of confidence might trigger the first tranche of these protective orders. That may trigger another tranche of stop-loss/limit orders, sparking a damaging cycle. That’s the fundamental argument for a correction.

But there’s also a scientific basis for why investors should prepare for the possibility of red ink. If you take a scatter plot of the daily percentage gain/loss of Bitcoin relative to its nominal price point, you’ll note that at present, a big gap of trading activity exists between approximately $19,000 to $40,000.

More disconcertingly, activity is most heavily concentrated between $56,000 and $63,000. In this price range, trading activity is densely packed, creating a “bolded ink” effect. In contrast, look at the activity between $32,000 and $40,000. The data points are spread out, which of course indicates that Bitcoin only spent a few sessions in this nominal price range before jumping higher to the $56,000 to $63,000 threshold.

Essentially, Bitcoin built its ceiling without first establishing a foundation. We really ought to see the $20,000 to $40,000 range filled out with significant trading activity before we can reasonably trust Bitcoin around the $60,000 level.

Indeed, previous data trends have also confirmed the requirement for BTC to build foundational support before moving to and keeping new record prices. For instance, in the last major rally when Bitcoin nearly hit $20,000, it did so rapidly, leaving a massive trading activity gap between $6,000 to $19,000.

Subsequently, when BTC corrected, it began filling out this range with trading activity, thus building a support channel that catalyzed the current cryptocurrency rally.

If You’re Looking to Buy – Wait

The above suggests that if you’re looking to build a position in cryptocurrencies, the better move might be to wait. Historically, the extreme speculation that we’re witnessing has never been supported. It’s not likely that this fervent rally will be any different.

Of course, no one knows for sure what will happen next. Therefore, I view the Bitcoin market from a prospective buyer’s point-of-view as an “80/20 opportunity.” You may be better served by putting up to 20% of your speculation funds to the current market but waiting with the other 80%. This way, you keep the powder keg dry should a severe downside occur and present a compelling discount.

Above all, do not lose sight of the fact that all cryptocurrencies are high-risk – high-reward ventures. Certainly, you can make a lot of money, but you can just as easily lose it. Please observe careful money management and perform your due diligence before proceeding.

Disclosure:The author has a long position in BTC.

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