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Thursday, December 3, 2020

Bitcoin and Druckenmiller- Where Are We Wrong about Them

Stanley Druckenmiller joined the cacophony of other investors in speaking about how bitcoin could show a better performance than gold. He spoke about how much gold he owned, which was significantly more than bitcoin- yet it would work much better considering it was thinner and more illiquid. Incidentally, this news seems to be quite encouraging for the industry, but it needs to be seen if this information is merely bullish or has some amount of truth in it. 

Let’s be clear about one thing- this was Stanley Druckenmiller who spoke about how bitcoin had a better value proposition than gold. It wasn’t him talking about how decentralization was the way to go. Rather, this was Stanley Druckenmiller talking about how bitcoin would have more upsides in the market because of its very market inefficiencies. Now, think about it just a second- the very factors that can make any investment bad is what this investor is considering to be the defining factor behind bitcoin

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There are three factors- which are dependent on each other, but are not the same. 

Bitcoin
Bitcoin

Bitcoin is Thinner

Any asset is considered to be thin if a large placement is going to change the price of that asset. Such a change is usually measured by market depth or the size of open orders. If we were to compare the order book depth of Bitcoin with Ethereum, we will see that Bitcoin has quite a significant depth under the standards of the crypto market.

Bitcoin is Much More Illiquid

While liquidity is usually tied to the depth of the market, it is also influenced by the invoking spread between the buy and sell prices. Any asset will be considered as ‘illiquid’ if the difference that is present between the highest bid and lowest ask is too wide. This gap is indicative of a reluctance shown by market makers in taking a position in the asset- without waiting for any due compensation. In a market that is thin, market makers are usually going to have quite a hard time trying to move their positions off their books- so spreads have started tending to be much wider than markets that have robust depth. 

Bitcoin has a Lot More Beta

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To put it in simple terms, Beta is simply a measure of the volatility of an asset which is relative to its market benchmark. To put it in perspective, the beta of Apple is its volatility which is relative to that of the S&P 500. But, the very calculation of several betas of hedge assets that include bitcoin and gold are somewhat more complicated- simply because the index to be taken as a benchmark can be hard to calculate. 

In conclusion, we can say that Stanley Druckenmiller isn’t probably seeing bitcoin as a portfolio hedge- but rather as a directional play. 

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