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Market Meditations | June 4, 2021

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Bitcoin Stuck In A Cycle 

A series of positive fundamentals and institutional buying drive us up to that $40k resistance level, only for a few bad headlines to take us back to the low to mid $30k regions. Euphoria creeps in when we near the $40k level and bearish sentiment when we creep back down again. We seem stuck in this loop. At least for now. 

Using This Week As An Example

A series of positive fundamentals and institutional buying helped get us close to that $40k level. 

For instance, we had the following headline: Google to accept cryptocurrency exchange and wallet advertisements in August. In March 2018, Google said it would restrict cryptocurrency advertisements to crack down on fraud. This is now being reversed. In fact, we see less of a narrative whereby cryptocurrency is limited given security concerns.

In fact, The Economist and crypto.com recently published a report titled Digimentality 2021 – Digital currency from fear to inflection. The report explores the extent to which digital payments are trusted by consumers and what barriers may exist to basic monetary functions becoming predominantly electronic or digital. A whopping 51% of people cited lack of knowledge as their biggest barrier. With security concerns coming in second at a significantly lower 34%.

Another publicly bullish opinion came from Bloomberg intelligence, which in its latest monthly report described cryptocurrencies en masse as “discounted and refreshed”. Stating:

Bitcoin is more likely to resume appreciating toward $100,000 resistance rather than sustaining below $20,000”.

These positive fundamentals got us close to the $40k level. At around which time Elon Musk decided to take to Twitter again. Musk tweets a broken heart with the bitcoin logo and a picture showing a couple in the midst of a breakup during the Asian hours.

A cryptic message, which the crypto community took as a sign of the billionaire distancing himself from bitcoin.  Bitcoin fell nearly 7%, hitting lows under $36,500 and reversing the previously mentioned rally.

Other cryptocurrencies including ETH, ADA, DOT and DOGE followed suit, suffering relatively bigger losses.

Diving Deeper 

Markets are not quite so binary as ‘up’ or ‘down’ and it’s worth considering price action relative to the wider context. In this case, note that the Elon Musk tweet led to a 7% drop in Bitcoin. Now consider how much the cryptocurrency fell by last month after Tesla delisted Bitcoin as a means of payment, citing environmental concerns: 35%.

It is thereby not surprising that we see a strengthening of the wider narrative that Musk is of little importance to Bitcoin’s strength. Indeed there were factors attributing to Bitcoin’s growth long before Elon Musk expressed interest. Many influencers have contributed to this narrative:

In an ironic twist, altcoins were the main casualties. With Musk’s favourite DOGE reversing many of its Coinbase news triggered gains. This further goes to show that the markets are currently extremely volatile. This may not be the best time for aggressive plays.

Tight range: $34k – just under $40k. Above and below these bounds, we should see some movement. 

Potential plays: 

  • Should we get above the $40k level, we might want to consider a retest play. 

  • Below the $34k level, shorts may become favourable. Targeting a retest or breakout.

  • For long opportunities, we might want to consider the $45k level. 

For all potential plays: consider your individual trading systems and what sort of plays you’ve tested. These key levels should provide some confluence at the very least.

Trend: Moving Averages show a breakdown and deviation from the mean. In times like this, the prices tend to want to test one of the Moving Averages. This can be used in conjunction with knowing what the key resistances are.

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When trying to build a view of market conditions, we ought to look at different pieces of information. In the past, we’ve created a series of guide to help you with this: 

Today, we explain how you can best interpet BTC Option Flows. Current data provided by Skew shows the options market is biased bearish, with long put trades accounting for 29% of flows seen today and short call trades accounting for 30$. 

Investors typically buy puts and sell calls when the market is expected to drop.

For more on this, check out our Cryptocurrency Options Guide.

Recap: On Monday, we suggested a potential long play from the 0.382 level with an upside of just under $3k. If you followed this, you would have captured about 16%. Congratulations!

Market Structure: That being said, Ethereum is not our favourite play right now. Trend is neutral and unclear:

  • On the downside, short plays are faced with many support levels. Lose $1400 however and we don’t have much support thereafter.

  • On the upside, if we break the $3k, we have just one light resistance at the $3.5k so quite different to Bitcoin. 

Bayes Theorem: Accounting for New Information

In the world of trading and investing, especially cryptocurrency, we are constantly bombarded with new information from price data, news publications, social media and more. As such, to be profitable in the long run, we need a framework through which to process all this new data.

Whilst Bayes Theorem has since been developed into a mathematical formula, it originated simply as an idea – that when we receive new information, the probability of our interpretation being correct should be weighted by the “prior probability” of that interpretation being correct (i.e. before receiving this new information) and also the likelihood that this new information is in itself correct.

Let’s take investing into early stage companies as an example. Suppose we are doing some research and come across an article detailing a new tech startup that has the ability to change the world as we know it. Immediately you may think “this would make a fantastic investment”. However Bayes Theorem means you need to consider several other factors. Firstly, we consider “the prior” – what is the success rate of early stage tech start-ups? (Hint: it is very low). Secondly, we assess the validity of this information – what is the probability that this article indicates I will get a return on my investment? It may be part of a poorly researched publication and even if part of a scientific journal, does merely having the technology mean this company will be successful?

It is obvious how using this mental model has helped us more accurately assess new information (in this case an article on a tech startup). Instead of falling foul of the availability heuristic (which you can learn more about here) and using limited information in our decision making process, we have avoided what would likely be a poor investment. 

Applications of Bayes Theorem go well beyond what we have explored, from helping computers process new data in the field of machine learning, to assessing the probability someone has a rare disease. However, the takeaway for us as traders and investors is that we should continuously seek new information to update our beliefs, whilst weighting this information by (1) our prior beliefs and (2) a critical evaluation of its validity.

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Disclaimer: The content in this newsletter is for informational purposes only. Nothing in this email is intended to serve as financial advice. We are not financial advisors. Every investment and trading move involves risk. Do your own research when making a decision.