Bitcoin Market Cycle: Headed Towards Point of Maximum Financial Opportunity
There are many venues one can venture when it comes to analyzing the state of affairs in a particular market. However, from a psychological perspective, it is human nature to see repetitive patterns play out over and over. In this article, we want to bring to the readers' attention the psychology behind a market cycle, how it tends to trick one's emotions, and what stage the crypto space might be at.
Understanding the Psychology of a Market Cycle
Credit goes to Karen Bennett, writer at cheatsheet.com, whose chart (below) on the psychology of a market cycle has become an absolute classic to explain the different emotional phases of any volatile market. The chart illustrates the type of feelings and sentiment traders and investors alike experience as the price fluctuates. These inevitable human emotions, coupled with market fundamentals, help to explain the price dynamics and what we should expect based on the type of emotional phase we project to be in.
In this article, we will attempt to draw some parallels between the chart of Bitcoin and the psychological cycles investors go through as described by Karen Bennett. Let's, first of all, explore the chart below and extract a few insights out of it. It is of cardinal importance to always be reminded that markets go through periods of expansion and contraction, which describes the times where the market alternates between trending in a defined direction and moving sideways. This phenomenon can be extrapolated to multiple facets of our lives (thermal, matter, solid, liquids...).
It is during the periods of most contraction that the majority of the market crowd will leave by selling their holding (weak-handed players) to those that are interested in buying to accumulate at what is perceived as attractive prices. The contraction of the market partly occurs due to the compressive effect of those strong-handed players absorbing selling orders.
Applying Market Cycle Psychology to Bitcoin & Market Cap
By comparing the psychology of market moves and its emotions to the rollercoaster seen in Bitcoin ever since its peak from its irrationally exuberant rally from Dec-Jan, we have taken the initiative to draw what we believe could be some common parallels that may provide some extra insights about the potential market phase we might be at, as perceived by market participants. In our opinion, a period of depression, which leads up to disbelief might be the most accurate terrain we find ourselves at this moment in time, especially after the harsh sell-off resumption seen ever since mid-May.
We can best define this period as the one that sees a consistent loss of hope, with investors no longer expecting a significant upward correction in the near future that may get them out of the deep hole they find themselves in. A significant portion of market participants give up on the idea that their capital has been wisely invested. We seem to have entered a phase where investors aim to save whatever funds left in desperation even if they realize that cutting the losses for whatever capital is left will still represent a major setback.
This phase leads to a potential paradigm shift in their belief about the underlying fundamentals that they first considered so disruptive, or they simply come to the realization that the only reason they invested was out of an adrenaline-led hype vs a proper understanding of the technology and its revolutionary consequences to advance society as we know it. This loss in the overall interest keeps prices at depressed levels, which tends to coincide, at times, with the lowest point in the current cycle.
Stable prices in a compressed range tend to follow, in what might be an arduous and torturous stage lasting quite some time before a new bullish trend re-emerges. Note how the ATR has been consistently compressing since the peak, which suggests we are gradually heading towards the compression phase and point of maximum financial opportunity.
Keep in Mind Return to the 'Mean'
Another critical component to understand is the term "return to the mean". Given that the price of Bitcoin is now way below the most widely followed moving averages (5, 100, 200-Daily Moving Average), one could apply the usefulness of drawing trending lines to estimate where the fair value or mean may be located. Note, different interpretations (lines drawn) should be considered.
By connecting the most number of highs /lows from various price sequences, we come up with at least 3 different trendlines that serve as an estimate to calculate where the market may perceive the mean or fair value of Bitcoin. No one can really tell whether the first green box is the one the market is paying most attention to (follow volumes for valuable tips). However, this exercise helps us determine, from a market cycle/mean reversion standpoint, that the range between $6.5k and $3k appears to be an area where a period of accumulation (perception of value) will most likely occur.
Mean reversion is extremely critical. Over a short span, the markets can behave in such an erratic manner, and anything can happen, however, when we scan the market conditions as part of an extended period of time, which may go from months to years - that's when statistics and certain patterns tend to more accurately play out, with 2 plus 2 more often than not equal 4. Performance that is well above average eventually reverts back to an equilibrium point as it no longer can defy gravity, while performance that is well below average has a tendency to improve.
At CoinLive we are always open for interpretations that can be logically explained and have a mathematical backing. We have been long endorsing the approach taken by the user of BitcoinTalk that goes by the name Trolololo and its logarithmic non-linear mean regression chart. According to the chart below, we might be closer to the upper edge of the $6.5k-$3k range, although as usual, a caveat applies. In the past, the price of Bitcoin has had a tendency to spend significant periods of time in an undervalued area below the mean reversion (red line).
The formula that utilizes can also be applied to the total crypto market capitalization (currently at $270b), which can be found below:
Twitter user @TommyWorldPower, a crypto influencer and Creator of
@energicrypto, notes: "My observations of the market is that current fair value of market: $175B. Current growth rate ~150%/yr (decaying at 20%/yr, so next year would be ~120% growth). Thus, though we are overvalued now, we would reach fair market value in about 8 months at current valuation. I'm hodling."
What Can We Learn from the Analysis?
Some of the main takeaways from this analysis include:
- The market's emotions appear to be at the lowest level in years. Even before the early 2017 pre-rally phase.
- The average true range (14-period) has been on a consistent downward trend, which is what leads to a period of contraction for the maximum financial opportunity.
- We have also estimated that based on one's personal optimistic stance, the mean reversion is a range comprised between $6.5k and $3k.
- Based on a logarithmic regression (non-linear) perspective, we are nearing a point of equilibrium in Bitcoin, which runs the risk of temporarily breaking down as historically seen.
- No one can give you enough certainty as to when the market will turn around. Whoever claims the opposite, you probably ended up paying attention to the wrong commentator.
- It is undeniable that unless you believe the blockchain technology will die out, we are nearing the point of maximum financial opportunity, which comes at the highest emotional price to bare.
- Phases of contraction/compression can last a significant period of time as the smart money accumulates the maximum number of positions and tricks weak-handed players' patient levels.
- As the market value goes down, the fundamentals have been on a straight line up, reinforcing the notion of a potential resumption of a bull trend in due time.
- If one applies patience and trusts on the disruptive nature of the technology, nothing we've seen in price dynamics is different from historical precedents pre-emptive of long-lasting bull runs.
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