How To Interpret the Hash Rate

Utilizing the Hash Rate

OK, this is all great and all, but does this actually help us trade Bitcoin?

The answer is yes... in certain circumstances.

Before we dive into anything, here's what the hash rate looks like when plotted out:

Because the hash rate is changing on a daily/hourly basis, we've applied a seven-day moving average to smooth it out.

The first element of this chart is that it's positively correlated with price.

Why?

Because, as market valuations rise, it creates an incentive for new miners to join the network and mine Bitcoin for rewards.

And, conversely for bear markets, where miners go offline as rewards diminish, resulting in a drop in the computing power of the network, thus reducing the hash rate.

The only reliable way to even use this data from a market analytical perspective is in the capitulation stages of bear markets.

Mining is a marginal business. The revenues miners receive from mining is barely sufficient to cover the vast costs of power and their sophisticated arsenal of computers. In bear markets, this is amplified.

In the late stages of a structural decline, capitulation is often signaled by weak and inefficient miners getting culled from the network.

Miners, by definition, are a net tax on the market. They're mining Bitcoin and selling it on the open market.

When the weak miners get culled off and capitulate, this renewed lack of miner sell pressure allows price to stabilize and begin climbing again.

In fact, this miner capitulation has concluded every past Bitcoin bear market.

We can quantify this capitulation by using the difficulty ribbon, a series of moving averages of the difficulty (the number of hashes required to mine a block).

This is what it looks like:

Periods where these bands compress mark this capitulation.

Every past Bitcoin bear market has seen a compression of these bands, making for an incredibly reliable indicator.

Here's the compression that took place in 2018, a classic example and buy signal using mining data:

We can further quantify the compression of these bands in a time series.

Compression zones (threshold of 0.05, as determined by Glassnode) have been marked in red below:

Takeaways and Caveats

The hash rate is an incredibly insightful metric to gauge the overall security and health of the Bitcoin network.

With the hash rate at all-time highs, the network has never been more secure for the transfer of capital and funds.

Moreover, in the penultimate stages of bear markets, it can have an application to active traders and investors looking to spot capitulation.

But, beyond that, the hash rate has little edge as a timing tool.

A caveat for this type of analysis is that the efficacy of this data will diminish as time goes on. The impact of miners on the network is decreasing with every year.

With 90% of the supply already mined, the selling pressure from miners is considerably less than that just a few years ago. The historic four-year halving cycle that's governed Bitcoin cycle has already begun its inevitable process of breaking down.

As with many metrics that've worked in the past, with the maturation of these markets, analytical work will likely continue getting more dynamic and nuanced as time goes on.

This includes the past relation mining has had on price action in previous Bitcoin cycles.

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Thanks for reading and please let us know if you have any questions!

Allstarcharts Team