The supply shock will stem from the halving, especially acute in the current situation of low liquidity.

The demand shock could be triggered by the approval of spot Bitcoin ETFs in the US, as well as the current economic climate that pushes investors to search for alternative asset classes.

Bitcoin supply shock

Out of the maximum of 21 million BTC, 19.56 have already been created. However, the amount of bitcoin available on exchanges is only 2.3 million and decreasing (source: Glassnode).

The halvening, i.e. the event hardcoded into the Bitcoin protocol, which foresees dividing in two the block reward, will effectively bring Bitcoin inflation from the current 1.74% to around 0.84%. As Bitcoin becomes scarcer, even a small uptick in demand can send the prices skyrocketing.

Bitcoin demand shock

The event that could induce a demand shock for Bitcoin is certainly the spot ETF approval in the US. It will allow institutional investors to get Bitcoin exposure without actually buying it, which is a compelling option in the financial world still cautious about cryptocurrencies.

However, why would institutional investors be interested in it in the first place? Despite the bad publicity that Bitcoin regularly gets, it is asserting itself as an alternative investment, progressively decorrelating from other asset classes.

As shown by Kaiko, a crypto intelligence firm, Bitcoin’s correlation with traditional assets has weakened meaningfully this year. Its 60-day correlation with the Nasdaq 100, which exceeded 70% in September 2022, has dwindled to approximately 19% as of last week. Furthermore, Bitcoin's negative correlation with the U.S. dollar has softened from 40%-50% to 11%. Despite an uptick since August, the average correlation between BTC and gold has hovered around 12% this year. Typically, when the correlation ranges between a negative 20% to a positive 20%, it suggests that the asset is largely uncorrelated.

Bitcoin’s appeal as a portfolio diversifier is growing, fueled by the growing imperative to diversify in response to the global economic situation.

The current bond market crisis is historically deep, marking a painful combination of exceptionally low starting yields and the Federal Reserve's vigorous tightening efforts to curb inflation.

According to the data compiled by Bloomberg, bonds maturing in 10 years or more have fallen 46% since peaking in March 2020, closely trailing the 49% drop in US stocks after the dot-com bust. The 30-year bonds have fared even worse, crashing 53% and nearing the 57% slump in equities during the depths of the 2008 financial crisis.

A stark illustration of the distress inflicted on investors is evident in the 1.25%, 30-year Treasury sold in May 2020, which has lost over half its value, now trading at around 45 cents on the dollar.

Interestingly, despite such significant losses, there seems to be a lack of panic. This is probably because most holders of long-term bonds are finance professionals and institutional investors who prefer to keep to themselves.

However, the debt spiral erodes confidence in banks and governments for all investors. After all, the banking crisis did not end with a couple of banks failing this spring. According to the FDIC’s last week’s report, the American banks are now sitting on an impressive pile of $684 billion of unrealized losses, fueling concerns for the whole US banking system.

The bankruptcies of Chinese real estate giants Evergrande and Sunac also prompted the People’s Bank of China (PBOC) to inject the equivalent of over $100 billion in the banking system, the most in three years. Interestingly, PBOC’s last intervention on this scale in January 2020 prompted a 13% spike in Bitcoin price and a 48% spike in Bitcoin addresses.

The situation is dire, and the increasing number of armed conflicts does not help. The war in Ukraine, the Israeli operation in Gaza, and probably the imminent Venezuelan attack on Guyana, are shaking the already unstable global situation.

In these circumstances, it is only logical for gold – the millennia-old refuge asset – to hit an all-time high of $2,100 this week. Admittedly, the bonds are not having their best moment now, but Bitcoin is uniquely positioned as digital gold, both scarce and convenient.

Chances are, we're about to see quite soon what happens when demand shock meets supply shock.

Written by D.Center