Bitcoin Volatility: A Misconception or a Reality?

I first became aware of Bitcoin in 2013, and since then, I’ve consistently encountered similar predictions or justifications for its impending demise. In this and future articles, we’ll address some of these common misconceptions. Bitcoin, the dominant crypto asset, has undeniably captured the world’s attention since its inception. While its revolutionary technology and decentralized nature have gained widespread acclaim, a persistent misconception continues to linger – Bitcoin Volatility: A Misconception or a Reality?

The inherent volatility of Bitcoin has led many investors to question its efficacy as a reliable store of value or medium of exchange. Labelling it as inherently unstable might be a premature judgment.

Understanding Bitcoin’s Volatility

Volatility refers to the rapid and significant price fluctuations of an asset over a given period. It is a measure of the uncertainty or variability of an investment’s returns. In the case of Bitcoin, volatility is often associated with its unpredictable price movements.

To begin, it’s crucial to acknowledge that Bitcoin has indeed experienced notable price volatility throughout its existence. Critics often point to this volatility as a significant drawback, casting doubts on its suitability as a store of value or medium of exchange. However, a closer examination reveals that this volatility is a natural consequence of Bitcoin’s relatively short history and its emergence in a financial landscape dominated by traditional assets.

Bitcoin’s journey began in 2009, and since then, it has navigated uncharted territories, carving out its niche in the financial ecosystem. Unlike established currencies or commodities, Bitcoin lacks the decades, if not centuries, of historical data that contribute to stability. Therefore, the perceived volatility can be seen as a reflection of its ongoing maturation process rather than an inherent flaw.

Market Dynamics and Adoption

The cryptocurrency market, including Bitcoin, is inherently different from traditional financial markets. Traditional assets like stocks and bonds are deeply ingrained in established financial systems, governed by regulatory frameworks and influenced by economic policies. Bitcoin, on the other hand, operates in a decentralized and largely unregulated environment.

This unique market dynamic amplifies the impact of external factors, such as regulatory developments, market sentiment, and technological advancements. Bitcoin’s price reacts more sensitively to these influences due to its relatively smaller market size compared to traditional assets. As the cryptocurrency market continues to mature, regulatory clarity and increased institutional participation may contribute to a gradual reduction in volatility.

The strange thing is, many traditional assets exhibit higher volatility than Bitcoin, but they often go unquestioned. According to a The Block report in August 2023, Bitcoin is now less volatile than Nasdaq, S&P 500 and gold.

Want more proof?

Over the last few years Bitcoin has been less volatile than Tesla. Tesla’s stock price has recorded significant fluctuations over the last few years. When it started to rally at the beginning of 2020, a single share was worth around $90. In November 2021, TSLA hit an all-time high of $1243. However, during the next couple of months, it lost some ground, plunging to less than $800 at one point. Currently, it trades at around $215.

Bitcoin as a Store of Value

With a history spanning around 14 years, it still stands in the early stages of development. As Bitcoin’s market capitalization expands over time, it gradually acquires a larger share of the market from other traditional stores of value, establishing itself as a noteworthy asset class. The Bitcoin market cap is currently just over $0.7 trillion USD(November 2023). The total store of value market cap including assets like gold, cars, collectibles, fine art, stocks, real estate, bonds etc is valued around $900 trillion USD.

Detractors argue that Bitcoin’s price volatility undermines its ability to serve as a reliable store of wealth. However, this argument oversimplifies the concept of store of value and overlooks the broader trends in Bitcoin’s market behaviour.

Bitcoin, unlike fiat currencies, is deflationary, meaning its purchasing power increases over time. Bitcoin’s supply is limited to 21 million coins, and the number of coins generated over a fixed interval is halved every four years. Besides, as its new supply decreases with time, there is an increasing demand for Bitcoin, pushing its price further up.

Bitcoin has certainly exhibited high volatility, however, if you zoom out a little from the monthly price action, Bitcoin’s history of year-over-year value provides another side of the story. 

While it’s true that Bitcoin’s price can experience short-term fluctuations, a long-term perspective reveals a different narrative. Bitcoin’s overall trajectory has been one of exponential growth, with its market capitalization steadily increasing over the years. This trend suggests that, despite periodic volatility, Bitcoin has demonstrated an inherent capacity to appreciate in value over time, challenging the notion that it cannot serve as a store of value.

Moreover, comparing Bitcoin’s volatility to that of traditional assets provides a more balanced perspective. Historical data shows that even established commodities like gold and currencies such as the U.S. dollar have experienced significant volatility at various points in their history. Bitcoin’s volatility, while notable, is not an anomaly in the broader context of financial markets.

Risk and Reward

Investing in any asset class involves a trade-off between risk and reward. Bitcoin’s volatility is often highlighted as a risk factor, but it is equally important to consider the potential rewards that come with this dynamic market. High volatility creates opportunities for investors to capitalize on price movements, potentially generating substantial returns.

Bitcoin’s volatility also offers diversification opportunities for investors. Traditional investment portfolios often consist of stocks, bonds, and perhaps some real estate. By adding Bitcoin to the mix, investors can potentially reduce their overall portfolio risk.

Bitcoin’s price movements are generally not correlated with traditional assets, meaning it can act as a hedge against market fluctuations. When stocks and bonds perform poorly, Bitcoin may hold its value or even experience positive price movements. This diversification can help investors mitigate their losses during market downturns.

Furthermore, Bitcoin’s decentralized nature provides an alternative investment avenue beyond the control of governments or financial institutions. This decentralization attracts investors seeking a diversification option that is not tied to traditional financial systems.

The Evolution of Bitcoin’s Use Cases

The increasing acceptance of Bitcoin by merchants, financial institutions, and even some governments is a testament to its growing utility.

Bitcoin’s decentralized nature provides individuals with greater control over their wealth, especially in regions facing economic instability or currency devaluation. As a borderless and censorship-resistant form of money, Bitcoin offers a viable alternative for those seeking financial autonomy. The evolving use cases contribute to Bitcoin’s legitimacy as a financial instrument, counteracting the argument that its volatility hinders its broader adoption.

Strategies for Managing Bitcoin Volatility

One way to mitigate the impact of Bitcoin’s volatility is through a strategy called dollar cost averaging. This strategy involves investing a fixed amount of money into Bitcoin at regular intervals, regardless of its current price. By purchasing Bitcoin consistently over time, you can potentially reduce the impact of price fluctuations.

Dollar cost averaging takes advantage of the concept of averaging out the purchase price. When the price is high, your fixed investment amount will buy fewer Bitcoins. Conversely, when the price is low, your investment will fetch more Bitcoins. Over time, this can help to smooth out the effects of Bitcoin’s volatility and potentially yield favourable returns.

Implementing dollar cost averaging requires discipline and a long-term perspective. By sticking to your investment plan regardless of short-term price movements, you can avoid the temptation to make emotionally-driven decisions based on the market’s ups and downs.

Conclusion: A Maturing Asset Class

In conclusion, the misconception that Bitcoin is inherently too volatile overlooks the dynamic nature of the cryptocurrency market and its ongoing evolution. Bitcoin’s journey from its early days to its current position as a significant financial asset and the dominant digital asset demonstrates a trajectory of exponential growth, adaptation, and increasing acceptance.

It’s important to note that volatility isn’t the same as risk. Bitcoin has proven itself as the low risk digital asset. Bitcoin market cap dominance in the total cryptocurrency market is over 52% as of today. The other 48% is being fought over by 22,000+ other cryptocurrencies. It’s not even close. The Bitcoin network hashrate – a measure of the processing power being contributed to the Bitcoin network – hit an all-time high of 455 exahashes per second (EH/s) on Oct. 12 and has doubled since the beginning of the year. The network has never been stronger.

Bitcoin may not be the ideal investment for scenarios requiring a secure emergency fund or funds earmarked for a forthcoming house down payment. Its price fluctuations make it less dependable for those situations where a specific amount of currency is needed within a relatively short time frame.

While volatility remains a characteristic of Bitcoin, it is not a static attribute. As the market matures, regulatory clarity improves, and institutional participation grows, the cryptocurrency landscape is likely to become more stable. Investors and observers alike should approach Bitcoin with a nuanced perspective, recognizing its potential benefits and risks while acknowledging its role as a pioneering force in reshaping the future of finance.