While correlations are just one factor to consider when investing in Bitcoin (BTC-USD) and Bitcoin-related stocks, it is still a widely discussed topic, especially given the current state. of the market. There are two distinct debates that we often see regarding Bitcoin correlations: 1) how correlated is Bitcoin to stocks and what does this mean? and 2) how correlated are various indirect crypto investments with Bitcoin?
Question 1: How correlated is Bitcoin to stocks and what does this mean?
For most of Bitcoin’s lifespan, it exhibited a low to negative correlation with broader stocks. Due to Bitcoin’s negative correlation, it was often seen as a portfolio diversifier/hedge against inflation. Over the years, correlations with equities have increased, causing investors to wonder if the pairing of Bitcoin and equities is a long-term trend or a short-term event. Two main explanations exist. First, and most obvious, asset classes show increased correlation during times of market volatility and uncertainty. Even the bond market, which generally exhibits a negative correlation with equities, showed an increasing positive correlation throughout 2022. On the other hand, some of the correlation could be attributed to the maturity of the cryptocurrency market. . Since its inception less than 15 years ago, the penetration of cryptocurrency into mainstream investing has accelerated in recent years. The most hyped IPO – Coinbase (COIN) – only recently took place in April 2021, with the first U.S. futures-based Bitcoin ETF – the ProShares Bitcoin Strategy ETF (BITO) – launched six months later in October 2021. Additionally, the SEC, Fed, and other financial bodies are beginning to treat crypto like any other exchange-traded security, and institutional adoption continues to grow. With limited data and no established precedent, it’s hard to say what Bitcoin correlations will look like going forward. It is likely that correlations could decouple slightly as markets normalize, but correlations may still remain elevated given the maturity of markets. But a higher correlation to stocks isn’t necessarily bad, especially since many investors have started to use Bitcoin and Bitcoin-related stocks as a return amplifier or as part of a broader technology allocation to levels of approximately 1-5% of their total portfolio. With Bitcoin prices hovering above the $20,000 level, investors may see this as a good entry point to establish or add to their allocations.
Question 2: How closely are indirect crypto investments correlated with Bitcoin?
In a previous note, we discussed different ways to invest in Bitcoin, including index-based ETFs which are used to provide thematic or sector exposure to crypto/blockchain companies and Bitcoin futures ETFs which track the price of Bitcoin. The ProShares Bitcoin Strategy ETF (BITO) is the first and largest US futures-based ETF with $706.3 million in assets under management. It shares an almost perfect correlation with BTC (currently 0.98). The difference results from the rolling costs of future contracts, which create a small drag over time. Since the start of the year, the ETF has fallen by more than 55.3%, compared to BTC which has fallen by 54.4% during the same period. The Grayscale Bitcoin Trust (OTC:GBTC) also shares a strong correlation with Bitcoin prices; however, the trust price differs from Bitcoin prices due to its premium/discount mechanism. Currently, GBTC is currently trading at a 32.5% discount to its underlying assets and its price has fallen 62.2% since the start of the year.
Although index-based crypto ETFs do not aim to directly track the price of crypto, most of these ETFs share relatively high correlations with the price of Bitcoin based on their holdings (discussed in more detail in the table below). below). Those who mainly hold pure crypto stocks like the Bitwise Crypto Industry Innovators ETF (BITQ) and the Global X Blockchain ETF (BKCH) have correlations closer to 0.80. Thematic ETFs that hold more diversified holdings like the Siren Nasdaq NexGen Economy ETF (BLCN) may have slightly lower correlations. Although the Invesco Alerian Galaxy Crypto Economy ETF (SATO) also holds diversified holdings, it has a correlation of around 0.83 with BTC as it has an allocation of around 15% to GBTC.
The chart below shows a closer look at crypto ETFs and indices by looking at the correlations of individual crypto stocks to Bitcoin prices. These currently range from around 0.60 to 0.85. Correlations are highest for companies like Microstrategy (MSTR) that hold a large amount of Bitcoin on its balance sheet as part of a “hold and hold” strategy (as of June 30, 2022, the company had 129 699 bitcoins on its balance sheet). Crypto miners also share high correlations with Bitcoin as they derive most of their profits based on the price of Bitcoin mined, but can vary depending on how they manage electricity costs and overheads. Correlations for exchanges and banks are still relatively high but lower than other parts of the crypto ecosystem, as their profits also come from volumes, fees and commissions.
Although Bitcoin’s correlation with broader stocks remains high, it is difficult to distinguish short-term trends from long-term ones given ongoing market uncertainty and a relatively short historical data set. Higher correlations to equities are not necessarily bad, especially for investors who use Bitcoin and Bitcoin-related stocks as part of a broader tech sector allocation or as a yield enhancer.
The Alerian Galaxy Global Cryptocurrency-Focused Blockchain Equity, Trusts and ETPs (CRYPTO) Index is the underlying index of the Invesco Alerian Galaxy Crypto Economy (SATO) ETF.
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Editor’s note: The summary bullet points for this article were chosen by the Seeking Alpha editors.