Bitcoin is a safe haven from economic and financial crises.
It’s a hypothesis I’ve heard over and over again during my time covering financial markets.
I guess the idea comes from the concept of bitcoin as “digital gold.” Like gold, bitcoin has a limited supply and is seen by some as a “store of value.”
Christmas Eve was the perfect day to put the theory to the test. The US stock market suffered its largest one-day points fall in history. (And the biggest percentage fall since the last financial crisis).
If the theory is correct, bitcoin should have pumped.
It did – by about 5%.
Moreover, the Wall Street Journal pointed out bitcoin’s strong correlation to gold (paywall) over the Christmas stock market collapse.
Gold is the flagship “safe haven” for investors, which suggests that investors might also be looking to cryptocurrency as an alternative investment.
The truth, however, is that bitcoin has never been truly tested by a global financial recession, so we shouldn’t jump to conclusions.
Traditional Safe Havens
A safe haven is an investment that protects (or hedges) against big falls in the stock market. Gold is the classic example. Over the decades, investors put money into gold when the stock market crashes. Gold has an intrinsic value and low volatility, making it a relatively safe store of money.
Looking at the charts, you can see that gold has an inverse correlation with the stock market (see below). Investors put money into gold when stocks fall and vice-versa. We see a similar pattern for other precious metals like silver and platinum.
Other examples of a safe haven include the dollar. As the world’s reserve currency, the dollar is seen as a relatively safe store of value for investors. The Japanese yen acts in a similar way during stock market volatility. So do government bonds.
Bitcoin as a Safe Haven?
With its status as “digital gold,” it has been suggested that bitcoin could function in a similar way to traditional safe havens.
Over Christmas 2018, bitcoin traded with a 0.85 correlation to gold (+1 being a complete correlation). The cryptocurrency also traded with a 0.77 correlation to the VIX index (the Chicago Board of Options Exchange’s Volatility index). The VIX is often used as a barometer for volatility on the stock market and typically trades with an inverse pattern to stocks.
Altogether, it’s a strong indication that investors treated bitcoin in the same way as traditional safe havens during the stock market slump.
We’ve seen similar activity in the past.
In 2013, an economic crisis in Cyprus caused the government to confiscate the money in people’s bank accounts (known as a “bail-in”). Depositors had everything over €100,000 in their accounts turned into junk stock in the bank.
Bitcoin soared by 87% in the months that followed. A “safe haven” move for people to protect their money. Later, when Greece fell victim to the eurozone crisis, bitcoin pumped again.
It appears that, on a small scale, people see bitcoin as a possible alternative when economies are in crisis.
Bitcoin Never Tested by a Global Recession
But let’s not get carried away. Bitcoin has never been tested by a widespread global recession.
The first bitcoin was mined in 2009 – a year after the banking industry collapse wiped out global stock markets.
Since the stock market bottom in March 2009, investors have enjoyed a decade of strong gains on traditional markets.
Bitcoin has only ever existed in a stock market bull run.
How can we possibly call bitcoin a safe haven until we see what happens during a recession?
The Case For and Against
The WSJ article (paywall) claims that bitcoin is beginning to act more and more like a traditional asset class. The reason, the author explains, is the inflow of institutional investment into crypto.
Crypto funds like Grayscale currently manage almost $1 billion and reportedly own more than 1% of bitcoin supply for its investors. It also cites the high volume of venture capital (VC) activity in bitcoin.
With more liquidity and traditional investors in the space, we can more accurately assess bitcoin’s movements against traditional assets.
However, liquidity is still much lower than other safe havens. Gold has a market capitalization of more than $7 trillion. Bitcoin has a market cap of $66 billion. It simply doesn’t have the track record and inflow of funds as, say, gold.
Bitcoin is also significantly more volatile than gold. Bitcoin moved 73% during 2018 whereas gold moved just 4%.
“Bitcoin should not enter the discussion as a potential safe-haven”
A research paper published by Science Direct in November 2018 took a harsh line on bitcoin as a safe haven.
The paper concluded that “Bitcoin should not enter the discussion as a potential safe-haven.” It cites the lack of long-term correlation with other safe haven assets as well as low liquidity and high volatility.
While bitcoin might follow short-term safe-haven movements, there is no long-term track-record to justify the safe haven tag. It also doesn’t meet the needs of investors during times of crisis; it’s too volatile and illiquid when investors are looking for safety and easy access to money.
We first need to see more liquidity in the market. And we need to see bitcoin tested through a real recession.
As the report concludes, “until the market matures, it is therefore unlikely to be worthwhile considering Bitcoin as a safe haven.”
Learned something new in this article? Subscribe to the Block Explorer newsletter to get exclusive crypto insights before they appear on the site.