May 25, 2021

Price dynamics of Cryptocurrencies and Gold

To say that cryptocurrencies have captured the attention of investors over the last few years is, at this point, something of an understatement. Cryptocurrencies like Bitcoin have absolutely exploded recently, in large part thanks to widespread asset price inflation and ultra-low interest rates. Bitcoin quadrupled in price in 2020 alone - this coming after it increased nine fold over the last two years.

After seeing a drop in the price of Bitcoin in the last month, many investors are thinking whether this is the right time to enter the crypto space. At the same time, gold is showing a recovery, hitting $1900 again this week. How do these two investment options differ? This is the first out of a three part series where we will discuss the nature, any similarities and the differences between Cryptocurrencies (specifically Bitcoin) and Gold.


By far, the most important thing about all of us to understand is that Bitcoin isn't just dramatically more volatile than gold. It's also more volatile than the S&P 500 and the NASDAQ composite. Not only that, but Bitcoin's Value-at-Risk (VaR) ratio has also been significantly higher as well. One recent report revealed that on any given week during the last two years, investors have a 5% chance of losing at least $1,382 for every $10,000 they invest in cryptocurrencies like Bitcoin. That means it has a Value-at-Risk that is almost five times higher than an equivalent investment in gold.


Indeed, all of this underlines the major reason why cryptocurrencies like Bitcoin will never be a true replacement for gold investments. For cryptocurrencies to take that status, they would have to behave similarly to the way gold does - and they simply do not. In fact, the correlation between gold and Bitcoin tends to be very low - ranging from about -0.5 to 0.5 on average. The correlation is not consistent in any one direction, meaning that gold and cryptocurrencies aren't acting like substitutes for one another at all.


Another major difference in the pricing dynamics between gold and cryptocurrencies has to do with how gold's liquidity helps investors manage risk in their portfolios. Gold has always traded in a well-established and liquid market. It's also always given investors the ability to enter and exit their gold positions as needed. Bitcoin spot trading volumes, on the other hand, can differ significantly from source to source and are often difficult to verify. While Bitcoin trading volumes have increased dramatically in 2021 alone, the reporting mechanisms available in online platforms aren't regulated and may not always be up-to-date.

Read part 2 of this series: https://www.orogenroyalties.com/post/gold-vs-cryptocurrencies-fundamental-differences