Cryptocurrency markets are notoriously volatile. Bitcoin (BTC), the largest cryptocurrency with a market capitalization of $550 billion, is down 47% at the time of writing from its all-time high of $69,000 reached just six months ago. You may be surprised to see the cryptocurrency market go down. But for professional traders and market analysts, crashes are often predicted by telltale signs and patterns.
Depending on their disciplinary background and methodological beliefs, traders and market analysts can assess market sentiment in three ways:
- Macro indicators
- Technical analysis
- On-chain analysis
Each approach relies on different data, but all can be used equally effectively to predict market movements.
Here are the favorite tools of traders and analysts interviewed by CoinDesk, and how they use them to look for bearish signs in cryptocurrency markets, led by Bitcoin price movements.
Macro indicators and crypto crashes.
Although Bitcoin is often touted as a non-correlated asset, implying that investors can hedge against the traditional market, this narrative is untenable in light of recent evidence that Bitcoin is highly correlated with equities. And at a time when macroeconomic conditions (inflation, monetary tightening, equities, etc.) are unfavorable, Bitcoin's correlation with traditional financial markets is not good news.
"I think the most important thing is to watch what the central banks say and then how the market reacts to it. The correlation of Bitcoin and [Ether] to the Nasdaq is exceptionally high, and I wouldn't expect that to change any time soon. Right now, we're trading cryptocurrencies more macro than usual," Jonathan Cheesman, former managing director at Goldman Sachs (GS) and HSBC (HABC) and current head of FTX Access (the institutional distribution arm of crypto exchange FTX), told CoinDesk.
According to an April 2022 report by Arcane Research, the correlation between bitcoin and the Nasdaq reached an all-time high of 0.70.
Analysts measure correlation on a scale of -1 to 1, where -1 means prices are moving in the complete opposite direction and 1 means they are perfectly synchronized. The report's author, Vetle Lunde, an analyst at Arcane, told CoinDesk that "correlations between asset classes are in an extreme state," pointing to bitcoin's record-high correlation to equities and simultaneous negative correlation to gold and the U.S. dollar index (DXY). "This is something that has never been seen before in the market," he said.
However, the correlation does not mean that bitcoin follows stocks per se. There is virtually no time lag between bitcoin and stocks, so they usually rise or fall at the same time. And in some cases, bitcoin falls or rises before Nasdaq.
"Maybe it's because of liquidity, dormant market orders and greater volatility in market makers reacting to news in the equity markets, while the big market makers in cryptocurrencies have a less different reaction formula," Lunde said.
Macroeconomic headwinds, such as exceptionally high inflation in both the U.S. and Europe, are only part of the macro narrative, however.
"The way I think about cryptocurrencies and their relationship to the macro. There are structural macro forces and cyclical macro forces," Cheesman said. Structural macro forces, such as de-dollarization and young people's affinity for decentralized alternatives, are positive for cryptocurrencies, he explained.
But until bullish macro forces kick in, there's reason to be cautious. "I would definitely ask people to be cautious and patient as they look ahead. The worst may be behind us in terms of the peak of inflation, but we haven't reached the peak of tightening yet," Cheesman said.
Bearish signs in technical analysis
Technical analysis (TA) - the study of candlestick price charts - is an important toolkit for traders.
Josh Olszewicz, head of research at digital asset investment firm Valkyrie Investments, told CoinDesk that he uses Bollinger Bands, a popular measure of price volatility, to understand where Bitcoin is heading. Judging by this tool, things appear to be bad for the leading cryptocurrency right now, he said.
Bollinger bands (yellow lines below) widen or narrow based on two standard deviations - a mathematical calculation - from the 20-period "moving average" (red line below) of the bitcoin price. The 20-period moving average often refers to the average price of the last 20 candles.
The chart below shows us three things, Olszewicz said:
- Volatility has rarely fallen to this level since 2011.
- Volatility usually doesn't fall much further before there is a spike in volatility.
- Whenever volatility has dropped that much, it has also soon exploded.
Olszewicz said the market is bearish based on weekly Bollinger bands, as bitcoin continues to close below its 20-week moving average of $42,700 at the time of writing.
Other TA tools are favored by crypto traders, many of whom are independent day traders.
EZCharts, a pseudonymous crypto trader, told CoinDesk that to test a bearish direction, he primarily looks at Bitcoin's weekly price closes and wicks. Over time, the bitcoin price forms certain shapes on the chart that give clues to its direction. "Currently, the market has recovered a bit from the local lows, but is forming a very clear bear flag (see the chart below). A bear flag is a pattern of technical analysis that indicates a continuation of the downtrend. As we have formed our macro double top, we can see that the trend is down, and based on this continuation pattern, it seems likely that Bitcoin will go down in the near future," he said.
Cyborg, another pseudonymous crypto trader, said he believes most "nukes" (a term for sudden price drops among crypto traders) come from two sources: Money flowing out of bitcoin and into altcoins, and separately, derivatives that go sideways.
For the former, he observes the Altcoin Season Index. To understand if derivatives are sidelined, he tracks open interest/volume relative to price. One way to monitor this is to look at the delta between spot and derivatives, which is the difference between the spot price (the current market price of bitcoin) and the derivatives index (bitcoin futures).
"If the derivatives indices are still trading above the spot price at the beginning of a downtrend, it means that the market is overheated. The bottom of overheated derivatives markets is brutal," he said.
Understanding the bottom through on-chain analytics
Because most cryptocurrencies use public blockchains to verify and record transactions, the data is available "on-chain" for anyone to see. This has led to on-chain analytics that examine transaction data and crypto wallet balances to understand market conditions.
On-chain analysis can tell us if bitcoin is going to fall and how low it can go.
Whalemap, an on-chain analysis tool, has popularized a metric called "realized price by cohort." The metric calculates the average price at which bitcoins were acquired from different types of wallets on the blockchain, such as "whales" holding between 10 and 100 BTC.
"Tracking the realized price of these players gives very accurate indications of macro support," Whalemap told CoinDesk. The realized price for the wallet cohort of 10-100 BTC has so far identified every "generational low" (the lowest price in each cycle) for bitcoin, as seen in the chart shared with CoinDesk.
The band is currently between $27,000 and $25,000, the data shows. If the bitcoin price starts to fall, "this should serve as a long-term support for BTC that we can historically trust," according to Whalemap.
But that's a big "if" - there's no definitive way to tell, after all. EZCharts, a pseudonymous trader quoted above with a bearish stance, told CoinDesk that "some people here are bullish. It wouldn't be a market if some weren't bullish and some bearish."
UPDATE (May 12, 17:40 UTC): Updated to reflect BTC/USD price change.