Big Investors Flood Back to Bitcoin

Summary

Trading View (next 2-4 weeks): We like to be bullish bitcoin.

Investment View (next 1-3 years): We like to be long bitcoin.

Macro

• The Federal Reserve (Fed) hiked 25bps last week.
• We think rate cuts in 2023 are unlikely, contrary to what markets are pricing in.
• We think the probability of a full-blown banking crisis is low.
• The probability of a recession within the next 12 months remains high.
• The macro backdrop is still bearish.

On-Chain/Flow Signals

• Five bullish signals and one neutral.
• The on-chain signal is very bullish.

Overall View

• With the macro backdrop still slightly bearish, and our on-chain/flow signals very bullish, our overall view is bullish bitcoin (Chart 1).

Macro: Are Institutional Players Back in Crypto?

With bitcoin up almost 70% YTD and an increasing lack of confidence in the traditional banking sector, are institutional players accumulating bitcoin again?

Microstrategy Is Buying Bitcoin Again

Yesterday, it was revealed that Microstrategy, an American business intelligence company and one of the largest bitcoin investors, purchased an additional 6,455 BTC for $150mn at an average price of around $23,238 per BTC. This takes their total bitcoin holdings to 138,955 BTC, for which they have paid c. $4.14bn with an average acquisition cost of c. $29,817 per BTC. Notably, this marks Microstrategy’s biggest bitcoin purchase since November 2021 when they purchased 7,002 BTC for c. $414mn (Chart 2). Furthermore, Microstrategy CEO Micheal Saylor announced via Twitter that Microstrategy repaid its $250mn Silvergate loan at a 22% discount.

ETF Inflows Resume

Our preferred metric to track institutional demand is flows into bitcoin ETFs. ETF inflows have jumped again recently (Chart 2). The past five days saw around $154mn of inflows into the bitcoin ETFs we track – some of the largest since July 2022.

Furthermore, the 1-month correlation between our ETF flows metric and bitcoin is also relatively high at 57% (Chart 2), meaning inflows and bitcoin prices have been moving in tandem recently.

Whales Are Accumulating

Another way to proxy some of the institutional demand is by looking at how the holdings of entities that hold large amounts of bitcoin (100 to 1,000 BTC) are evolving. According to Glassnode, entities are defined as a cluster of addresses controlled by the same network entity.

The share of the total circulating bitcoin supply attributed to entities holding between 100 and 1,000 BTC has been rising since July 2022 (Chart 4). It moved sideways into the start of this year but resumed an uptrend from March 2023. Currently, around 3.83mn (or c. 20%) of the 19.3mn total bitcoin circulating supply is held by entities with a balance between 100 and 1,000 BTC.

Macro Backdrop: Regulation Back on the Forefront?

The Federal Reserve (Fed) delivered a 25bp hike last week, in line with consensus. The end-2023 Fed funds rate (FFR) in the new Summary of Economic Projections (SEP) was unchanged at 5.1%. The statement released at the end of the meeting saw Fed officials express confidence in the health of the US banking system while acknowledging that ‘the Committee remained highly attentive to inflation risks’.

Markets are pricing in rate cuts between May and December. We believe 2023 rate cuts are unlikely – the US banking system is well capitalized, making a full-scale banking crisis unlikely. The latest Fed balance sheet data showed overall lending to banks did not increase last week.

Crypto regulation proves a dominate theme this year. Yesterday, the Commodity Futures Trading Commission (CFTC) filed a lawsuit against Binance, the largest cryptocurrency exchange in the world by trading volume, and Binance CEO Chengpeng Zhao, for offering unregistered crypto derivatives products in the US. If market makers limit or halt trading on Binance as a result of the CFTC action, it could have a huge impact on liquidity. Given the current constraints on crypto liquidity that have unfolded following the FTX and Alameda Research collapse, such a move would only increase volatility. 

The key data point to watch out for this week is PCE (Friday). We agree with consensus of +0.4% MoM for core and expect a further increase in the median price PCE from 5.8% YoY in January. Markets expect the Fed to retreat on its hiking path, but any upside surprises to PCE (the Fed’s preferred measure of inflation) may rile markets. Elsewhere, data related to bank health will also be important, including the Fed balance sheet and money market fund (MMF) assets (Wednesday) and commercial banks’ balance sheets (Friday).

On-Chain/Flow: ETF Inflows Resume

Five metrics give a bullish signal this week:

• Institutional demand: ETF inflows resume.
  
  
• Futures activity: Futures open interest is up, and perpetual funding rates are still positive.
  
  
• HODLer behaviour: Most (68%) of the coin supply has not moved in at least a year.

• P&L of investors: The profitability of the coin supply remains elevated.

• Mining activity: The hash rate sets new all-time highs, and miner revenues soar.

The remaining metric gives a neutral signal:

• Liquidity demand: There is abias forshort-term exchange outflows, but longer-term exchange inflows remain.

On balance, on-chain/flow metrics are giving a very bullish signal. Here are the details of each metric (with explanations in the Appendix).

Institutional Demand: Bullish Bitcoin

Our preferred metric to track institutional demand is flows into bitcoin ETFs. Inflows, similar in magnitude to those in January, returned last week (Chart 5). This is bullish bitcoin.

Demand for Liquidity and Exchange Activity: Neutral Bitcoin

On exchange flows:

• Short term, a bias for outflows from exchanges exists. Net c. 23,000 coins exited exchanges over the past week (Chart 6).

• Longer term, the 30-day change in the exchange remains in positive territory (Chart 7).

The combination of bitcoin’s recent exchange outflows and its longer-term trend for exchange inflows gives a neutral signal for bitcoin.

Futures Activity: Bullish Bitcoin

On futures markets:

• Futures open interest ($8.4bn), a good measure of investor interest, is up 3% MoM (Chart 8).
  
  
• Perpetual funding rates have, on average, remained positive (Chart 9). This means traders are paying a premium to keep open long positions, which is bullish for bitcoin. However, the magnitude of the positive funding rate has been decreasing recently.

Together, this is bullish bitcoin.

HODLers: Bullish Bitcoin

On HODLer metrics:

• The 30-day moving average of the coin days destroyed (CDD) metric is up 44% MoM (Chart 10).

• The 30-day moving average of the 1y+ revived supply metric is up 29% MoM (Chart 11).

• The 1y+ vintage dominates around 68% of the coin supply now (Chart 12).

There has been a (somewhat expected) increase in the movement of older coins recently (higher CDD and 1y+ revived supply) as investors take profit during the recent rally. However, the proportion of the supply that has not moved in at least a year has risen to 68%. Overall, we still see the strong conviction to hold by most of the coin supply as a bullish signal for bitcoin.

Investor Profit and Loss: Bullish Bitcoin

On profitability of the coin supply:

• The percentage of circulating supply in profit (PSIP) sits at 75% (Chart 13).

• Net unrealised profit/loss (NUPL) is now 0.30 (30% of market cap) (Chart 14). The metric means the supply is in a net profit position (NUPL > 0), with market cap exceeding realised cap.

• Year to date, the spent output profit ratio (SOPR) has spent 57% of time above one (realised profits) (Chart 15).

The profitability of the coin supply remains high, and the supply remains in an (unrealised) net profit position (NUPL > 0) whilst realised profits on chain (SOPR > 1) dominate year to date. Overall, this is bullish for bitcoin.

Mining Activity: Bullish Bitcoin

The hash rate continues setting new all-time highs and is up +28% MoM (Chart 16). Meanwhile, miner revenues have soared +25% MoM as miners reap the benefits of the broader crypto rally (Chart 17). Together, this is bullish bitcoin.

Appendix

Institutional Demand

Perhaps the largest institutional vehicle for bitcoin is the Grayscale Trust, with over $27bn in assets. It invests solely in BTC, and so many investors, notably institutional, who cannot hold BTC directly can get exposure through investing in Grayscale. Consequently, if the trust trades at a premium to BTC prices, it may imply ‘excess’ demand from institutions, but ‘excess’ supply if it trades at a discount. Alternatively, the discount may suggest investors have found other ways to get exposure to BTC, whether through ETFs or directly holding BTC. We therefore focus on how the discount has changed in recent months to gauge investor interest.  Alternatively, investors may be using other vehicles to get exposure such as ETFs or holding BTC directly. We put more weight on BTC flows than the Grayscale premium.

Liquidity Demand

Another measure of cryptocurrency bullishness is whether investors are willing to hold it in illiquid form (e.g., a private wallet) or prefer a liquid form (e.g., on an exchange). The former would suggest investors are bullish, as they are comfortable with being unable to sell easily. Conversely, holding it in liquid form would suggest investors are bearish, as they prefer being able to sell easily.

Therefore, large flows onto crypto exchanges would suggest investors want to convert their holdings to a more liquid form, implying more bearishness.

Futures Activity

We track the growing market of bitcoin futures. Open interest – the sum of long and short contracts – is a good measure of investor interest.

Perpetual funding rates reveal the directional bias of investors. Exchanges set funding rates to prevent a lasting divergence in the price of the futures contract and the underlying since perpetual contracts have no expiry date so never settle in the traditional sense. Consequently, we can interpret funding rates as the cost of holding bitcoin via perpetual futures. Positive funding rates imply longs pay shorts and vice versa. We use it as a proxy for trader sentiment since a positive funding rate implies traders are paying a premium to keep open long positions.

HODLers

In our introductory bitcoin flow framework, we explained ‘HODLers’ and ‘HODLing.’ HODLing refers to buy-and-hold strategies in the context of bitcoin and other cryptocurrencies. Those who HODL for extended periods are die-hard adherents.

We can categorise HODLers by the length of time they have held BTC. We define long-term or staunch HODLers as those who bought BTC five or more years ago and have held it ever since, medium-term HODLers as those who bought 6-12 months ago, and short-term HODLers as those who bought 3-6 months ago.

The coin days destroyed (CDD) metric is defined as the number of coins in a transaction multiplied by the number of days since the coins were last spent. So, increasing CDD suggests older coins are being spent (more coin days are destroyed) and vice-versa.

Profit and Loss

The percent supply in profit (PSIP). This tracks the share of circulating BTC supply in profit. That is the percentage of circulating BTC whose current price is higher than when it was last transacted (movement).

Net unrealized profit and loss (NUPL). This is the ratio of unrealised profits over total market capitalisation. While PSIP just focuses on whether BTC coins are in profit or not, the NUPL focuses on the size of profits. So, we could have a situation where the PSIP is low – that is, a low share of supply is in profit – but the NUPL could be high if the size of those profits is large.

Spent output profit ratio (SOPR). While PSIP and NUPL focus on unrealised profits or mark-to-market, this measure focuses on realised profits. SOPR is the realised value of a transaction divided by the value at initiation (or creation) – more simply, price sold divided by price paid. If SOPR is above one, investors in aggregate have realised profits, while below one means they have realised losses. In broad uptrends, SOPR spends a significant amount of time above one, whereas the opposite is true for broad downtrends.

When SOPR is rising, sellers are increasingly realising profits. The opposite is true when it is falling. A price rally with a flatter SOPR trend indicates investors are not yet realising their profits with the rally. The reluctance of investors to sell and realise a profit may be because they believe the price will increase further, which would be bullish. At the same time, more profit taking could precede a correction. Typically, buying as SOPR moves around one during bullish periods has proven to be a profitable strategy.

Mining Activity

Computing power is central to the crypto market. Miners use advanced computing hardware to solve complex problems that confirm BTC (and other coins) transactions on the public ledger or blockchain. The miners are rewarded with new coins for their efforts. A measure of the complexity of the problems and so the computing performance required to solve them is the hash rate. The higher this rate, the more computing performance is needed to maintain the blockchain. The rate can fluctuate depending on demand for crypto.

Dalvir Mandara is a Quantitative Researcher at Macro Hive. Dalvir has a BSc Mathematics and Computer Science and an MSc Mathematical Finance both from the University of Birmingham. His areas of interest are in the applications of machine learning, deep learning and alternative data for predictive modelling of financial markets.