As FT proclaims “crypto winter” as their “Year in a word 2022” maybe it’s good time to talk about a paper on Bitcoin price bubbles Nicolas Houlie and I have published in September 2022 in PLOS One.
We applied spectral analysis over the Bitcoin price time series – an approach inspired by geophysics that likens a sudden spike or drop in the price to an earthquake tremor. We then compared the results to other assets: both highly-liquid and illiquid or under strong speculative pressure.
What we’ve found was:
- Bitcoin price has been largely defined through a repeated pattern of exponential growth followed by a sudden drop to some residual level (price bubbles and pops).
- These bubble-and-pop events usually last from 50 to 70 days and are very common in price series of illiquid or soon-to-be-illiquid assets (for example, Enron stock or Greek 10Y bonds around 2013).
- In fact, if we overlay the normalized prices of these events for Bitcoin from different periods, Ethereum, Monero, or tulip bulb prices in the 17th century, we get surprisingly similar development dynamics in terms of growth, decay, and duration of the periods.
- What’s particularly interesting for Bitcoin, is the number of these bubble-and-pop events (10 and counting). Other assets would’ve been taken of the market, but Bitcoin, it seems, is destined to wallow in a stream of constantly repeating crises.
The claim that Bitcoin is illiquid might seem counter-intuitive to some. On a small scale, consumer level you won’t notice much difference between buying and selling crypto for cash. On a wholesale level the picture is different though.
What I have heard in my private discussions with some bankers involved in attempts of bridging the world of traditional and crypto assets, getting out of crypto and back into cash in bulk (i.e. liquidating several million dollars worth of crypto) can be a convoluted and slow process. Certainly not something you’d expect from a liquid asset.
So what is Bitcoin? In the paper we conclude that it is an illiquid, speculative asset. In my own words though, I’d just call cryptocurrencies a vehicle to go long on the crypto-hype-du-jour.
Will it get better as the industry matures? Of course. But my bet is that just like in that one Family guy episode, the crypto-crowd will reinvent the system they rebelled against.