How much higher can Bitcoin go?
- JPMorgan strategists see Bitcoin rising to $146,000
- Bullish thesis based on replacing gold as value store
- Rising yields and inflation breakevens also supportive
Just how high can Bitcoin go from here? After a remarkable 2020 and a fresh surge in the first trading days of 2021, some are starting to talk up the prospect of a multi-year bull cycle for Bitcoin.
In a note published last year, JPMorgan strategists highlighted that the cryptocurrency valuations could rise significantly above where they might be justified as a ‘store of wealth’ because they also have utility as a means of payment. “The more economic agents accept cryptocurrencies as a means of payment in the future, the higher their utility and value,” they explained. “Cryptocurrencies derive value not only because they serve as stores of wealth but also due to their utility as means of payment.”
The move by PayPal to enable users to buy, sell and hold a range of cryptocurrencies was a key move encouraging the price of Bitcoin to rally from around the $10k mark.
US 10-year breakeven inflation expectations rose above 2% for the first time in over two years at the start of 2021. US 10 year yields also rose above 1% for the first time in nine months, with the 2s10s curve steepening further to 0.89%, the widest in over 3 years. The 5s30s spread was at its widest since 2016.
Encouraged by the development of vaccines and a massive increase in the money supply, many see inflation coming over the hill. The massive increase in the supply of money as a result of the fiscal and monetary response to the pandemic may lead to a far more inflationary environment than we have seen for some time.
Chart: US M2 money stock has risen like never before
Significant expansion of the supply of money does not always create inflation. But in the words of Milton Friedman, “inflation is always and everywhere a monetary phenomenon that arises from a more rapid expansion in the quantity of money than in total output”. This time too, unlike in the wake of 2008/09 there is coordinated fiscal expansion. Whether or not the current phase of money printing leads to inflation (it did not after the great financial crisis because the money was largely absorbed by banks on their balance sheets) will ultimately come down to whether the Fed can increase interest rates enough to suck the money it printed back out of the system.
On that front, it has been made abundantly clear that the Fed will not raise rates too soon. Average inflation targeting – as adopted by the FOMC in the second half of last year – implies quite the reverse and a willingness to let the economy – and inflation – run hot. The worry is that inflation expectations become unanchored as they did in the 1970s and the Fed loses control. All this favours hedges like gold and, increasingly it would seem, Bitcoin.
“Owning Bitcoin is a great way to defend oneself against the GMI [great monetary inflation], given the current fact set,” veteran US investors Paul Tudor Jones wrote in May last year to investors. He now has about 2% of assets invested in Bitcoin.
Chart: US 10 breakeven inflation expectations have risen above 2% for the first time in two years
Increasingly, younger investors are pivoting towards Bitcoin over gold. Gold has traditionally been the non-yielding inflation hedge but it’s days may be numbered. In a world of negative real rates, both gold and Bitcoin have advantaged, but younger cohorts price the lustre of digital.
“An important divergence between the behaviour of the older versus younger cohorts of the retail investors’ universe has been their preference for ‘alternative’ currencies,” write the well-followed Nikolaos Panigirtzoglou and his JPM team.
In a later note dated January 4th, they noted that Bitcoin’s competition has already started with $3bn of inflows into the Grayscale Bitcoin Trust and $7bn of outflows from gold ETFs since October. A “crowding out” of gold over time, given the size of private investment in the asset, would imply “big upside” for Bitcoin over the coming years. To reach the size of the gold market today, Bitcoin would need to rise x4.6, which would take the price to $146,000. This is not a price prediction but based on their understanding of the mechanics of the market, a legitimate target if you believe that Bitcoin could become an equal to gold some day.
Indeed, they stress that it is unlikely that institutional investors will allocate funds to Bitcoin commensurate with gold without a “convergence in volatilities”.
Furthermore, when looking at volatility, they note that Bitcoin consumes 3.4x as much ‘risk capital’ as gold, whilst the Grayscale fund consumes 5.1x as much. Taking average at 4.3x and you are close to the 4.6x they note is required to achieve parity with the private gold market. So, if Bitcoin already consumes almost as much risk capital as gold, the upside for Bitcoin may well be capped and its equalization with gold almost accomplished.
Institutional interest in Bitcoin
So what marks out the bull run of 2020/21 with the boom-and-bust of 2017/18? Clearly institutional investors are showing more appetite. The move into the Grayscale fund is instructive – lots of investors will only be allowed exposure to Bitcoin via fund form for regulatory and risk management purposes.
Panigirtzoglou and his team say: “There is little doubt that the institutional flow impulse into Bitcoin is what distinguishes 2020 from 2017.” However, it would be unwise to see these flows as being driven entirely by long-term investors.
“We believe,” they continue, “that a significant component of last year’s institutional flows into Bitcoin reflect speculative investors seeking to front-run other more real-money institutional investors.” The JPM highlight the “frothy” positioning in CME Bitcoin futures as evidence of this trend.