A Quantitative Look at Bitcoin-Ether Performance Drivers

09 Jun 2021

By Erik Norland, Senior Economist, CME Group

Bitcoin’s journey began in 2009 when it was initially valued at around one cent per coin. In 2010 it got to $1, and has since risen to as high as $64,000 in a journey that has been remarkable. The meteoric rise in its price has been accompanied by extraordinary volatility. The price surge, which is so dramatic that it is best viewed on logarithmic charts, has been punctuated by three deep bear markets: dropping 93% in 2010 and 2011, 83% in 2013 and 2014, and 82% in 2018 and 2019. Most recently bitcoin retreated about 50% from its highs.  

Part of the reason for bitcoin’s volatility is its perfect inelasticity of supply. No matter where the price goes, the supply of bitcoin increases at about the same, pre-ordained pace (Figure 1). 

Figure 1: Bitcoin’s supply is perfectly inelastic and increases in supply are slowing with time

Bitcoin’s latest tumble began at the end of April when prices peaked at around $64,000 per coin. Since then, prices have fallen to as low as $30,000 on an intraday basis. Were there any advance indications of its recent decline?

Here are three time series that are freely available on a website called blockchain.info/charts that cryptocurrency investors might find useful.

  1. Cost Per Transaction: although bitcoin prices have risen a great deal since the crypto asset debuted in 2009, bitcoin has had three previous bear markets in which it fell by 93%, 83% and 82%. Each one of these bear markets came after a spike in bitcoin’s “cost per transaction.” Cost per transaction spiked late last year, according to blockchain.info, rising 10-fold from about $25 per transaction to $250 or more before this most recent correction. Following past bear markets, subsequent bull markets didn’t begin again until trading costs had fallen and stayed low for some time (Figure 2).

Figure 2: Are bitcoin bear markets presaged by rising transaction costs of crypto exchanges?

  1. Transactions per day: the relationship between trading volumes and bitcoin prices isn’t always clear, but since 2013, a rising number of transactions sometimes seemed to presage rising bitcoin prices, whereas stagnating or falling volumes sometime appeared ahead of declines in prices. The number of bitcoin transactions has been falling in recent months (Figure 3).

Figure 3: Transactions have often stagnated or fallen before declines in bitcoin prices

  1. This represents the number of calculations necessary for a computer to mint a new bitcoin. In 2010, a computer could perform as few as 10 calculations to produce a coin. Today, it requires, on average, 25 trillion calculations. This means that with 18.7 million bitcoins in existence, producing the remaining 2.3 million coins will be computationally intensive and expensive. That might not increase the demand for bitcoin, but it will, by all appearances, keep a lid on new supply (Figure 4). “Difficulty” may, in fact, be a proxy for bitcoin’s mining cost of production. Many commodities have difficulty sustaining prices below their cost of production, but this concept is a bit nebulous for bitcoin since one doesn’t “need” bitcoin in the way that one might need a commodity like corn, copper, lumber or oil.

Figure 4: Does rising bitcoin mining difficulty put a floor under bitcoin prices?

What happens with bitcoin has implications for the wider crypto asset universe, including ether, the currency of the Ethereum smart contract network. Ether is both highly correlated with bitcoin (Figure 5) and more volatile than bitcoin (Figure 6). To borrow the lingo of equity markets, this makes ether a high beta version of bitcoin. When bitcoin prices rise, ether prices tend to rise more. When bitcoin prices fall, ether prices tend to fall even further.

Figure 5: Bitcoin and ether have been highly correlated, especially since 2018

Figure 6: Ether tends to be even more volatile than bitcoin


What’s curious is that ether supply isn’t limited in the same manner as bitcoin’s. With bitcoin, there will only be 21 million coins produced, of which about 18.7 million already exist. By contrast, there is no limit to the total number of ether coins that can ever be created, but only 18 million ether that can be created in any 12-month period. One might have imagined that ether’s greater supply flexibility might dampen its volatility, but the opposite appears to be the case.

The ratio of the annual creation of new ether to bitcoin appears to follow the ETHBTC exchange rate. When ether prices rise relative to bitcoin, as they did in 2017 and as they have recently, this appears to incentivize the creation of additional ether coins relative to the pre-ordained number of new bitcoin being created (Figure 7). What this suggests is that new ether supply isn’t so much driving the price of ether as it is responding to the price of ether relative to bitcoin.

Figure 7: When ETHBTC rises, it tends to incentivize the creation of additional ETH

This suggests that bitcoin retains a substantial first mover, incumbency advantage in the crypto currency world despite the fact that ether, as the currency of the Ethereum smart contract network, may have more practical applications than bitcoin, which is mainly used as a store of value. For many investors, bitcoin remains the first point of entry into the cryptocurrency universe and it retains a substantial role in price discovery for ether and other crypto assets.

An Exchange Traded Fund (ETF) is a marketable security that is formed to track nearly anything, ranging from a specific index, sector, commodity, or increasingly, theme. They are most commonly used to track a basket of stocks, and can typically be accessed through the same channels as regular stocks. ETFs are typically separated into passively-managed ETFs that simply mirror the security they are tracking (e.g. the STI), and actively managed ones that attempt to deliver higher returns or specific investment objectives, often with a pre-specified theme in mind (e.g. ARK Invest’s Innovation ETF).

Why should I trade in ETF CFDs?

  • ETFs have been growing in popularity over the years. 2020 was the best year for ETFs yet, with global equity ETFs seeing more than $1T in inflows within a 12-month period. Using CFDs to gain exposure to ETFs allows for greater capital efficiency because only a portion of the contract value is required as margin to establish a position.
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  • An investor wanting exposure to the post-pandemic economic recovery could open a position in the well-known SPDR S&P 500 ETF (SPY), which tracks the performance of the S&P 500. Another investor that may be convinced of the future importance of Environmental, Social and Governance concerns (ESG) may find the increasing selection of ESG-themed ETFs that track a basket of high ESG-rating companies to be a good investment, rather than cherry-picking individual equities by hand. ETF CFDs can act as a powerful tool for traders can profit from both directions of the market by taking on long or short positions.

A look at two ETF CFDs we offer:

1) Has the ARKK been sunk?

ARK Innovation ETF (ARKK) ARKK is an actively managed ETF by ARK Invest that invests in a range of companies based on their innovative and industry-disrupting potential. ARKK’s largest holdings are in companies such as Tesla, Square, and Zoom. ARKK is down around -33% from peaking on 12th Feb and is currently in the red for the year to date as the market experiences a risk-off outflow of funds. Superstar fund manager Cathie Wood has however been consistently doubling down on her bets, buying even more shares in growth stocks that are going through their own tumultuous periods such as DraftKings, Peloton, Teladoc, and Tesla. In her view, ARKK is playing the long game, and remains steadfastly convinced in the long-term prospects of these growth stocks beyond this current bout of volatility. Similarly on outflows, investors are still betting big on ARKK as ARK Invest has only lost about $1.2B in assets this year across all its six funds, compared to seeing an inflow of $15.1B during the same period. Recently, investors have been nervously eyeing ARKK’s basket of tech stocks as their future earnings potential remain vulnerable to erosion through high inflation – the dominant concern of the market in recent weeks. As commodities – the major contributor to the recent heightened inflation fears – drops sharply from record highs, are investor concerns over hyperinflation overblown?

2) Searching for exposure to Asian equities?

iShares MSCI Asia ex Japan ETF (AAXJ) The AAXJ is currently trading -10.6% adrift of all-time highs seen in February, giving up gains in tandem with an Asia-wide equity sell-off at the time. Given that slightly over 40% of the ETF’s holdings are based in China, the ongoing tumult seen in Chinese equities currently have carried over nearly perfectly in the AAXJ, as Chinese investors take a breather after the stellar gains made over the past year. Looking ahead, Asia – and particularly China, is steaming ahead with its economic recovery. China is widely expected to be one of the best-performing major economies this year, providing a major boost to the outlook for corporate earnings. As the rest of Asia and the world gradually opens up their own economies, AAXJ is likely to again benefit from strong Asian outperformance amidst a strengthening trade outlook.

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