Bitcoin’s Supply & Demand

During the past 14-15 months of Bitcoin’s price decline, much has been made of Bitcoin’s inflation rate … i.e. the speed at which new Bitcoins are discovered each day and, at least some of the time, sold into the market.  Currently 3600 BTC are created every day and the market must absorb this supply in order to maintain current prices.

Short sellers focused on this, especially when the price was >$500/coin, stating that there is no way current demand levels can absorb $millions of new bitcoins being sold every day.  Fundamentally, without huge hype as per late 2013, they have been proven correct … but at the current ~$235 level, the same argument becomes weaker.  Especially given recent changes in the market.

Firstly, at $235 per coin, fresh supply of bitcoins is valued at ‘just’ $846,000 per day. This sounds like a lot, until you divide it among 1000’s of individuals.

Secondly, the weak holders of Bitcoin have already been flushed out. If they didn’t panic sell at $200 or $180, it seems unlikely they will at $150 or even lower. The only way a short seller can push the price down is to temporarily create a large oversupply by scaring people into selling.  It would appear that their influence is waning.

Thirdly, more people than ever can buy bitcoins! itBit’s volume has increased significantly since it announced it was fully regulated in the US. Very roughly I’d say their volume has increased by 2000BTC/day.  Coinbase is also now US regulated – at least in part – and has launched in the under-served UK market.

Even more exciting for those of us cheering on the demand side of the equation are the stock-exchange listed vehicles currently available for the first time.  We have GBTC (Bitcoin Investment Trust) in the US and XBT (Bitcoin Tracker One) in Sweden … with more to follow.  GBTC is a little odd in that newly created shares must be held for 12 months, however we can assume that now it is listed it continues to grow in size.  More obviously beneficial to the quest for equilibrium is the Swedish XBT exchange traded note.  Since launch, volume has averaged >500BTC per day … as it is so new, one can assume that these are pretty much all buy orders.

So, being really pessimistic, these new developments together look to have absorbed around 20% of the supply of new bitcoins.  That is a significant change in just a couple of months.  If you were very optimistic you may feel that, at least for now, they account for the acquisition of ~50% of all new supply.

We do not know the magnitude of the overhang of supply (e.g. from miners who have hoarded coins and seek to sell them). However, I expect that if this level of demand were maintained for just a couple of months then the price will have to move upwards.

One thing is for sure, ETFs and ETNs nearly always grow over time (so much so that many believe they pose systemic risk to equity/bond markets). Traders can control the price of Bitcoin, but only temporarily if moving against fundamentals.  It is entirely possible that we have already passed equilibrium but a supply crunch has not happened yet.