Bitcoin, Drawdowns, and Dollar-Cost Averaging

Perhaps the simplest demonstration of how this bear market compares to others is through price drawdowns from all-time highs.

This is the third-worst drawdown since the one that led to the 2015 lows. And the current 78% slide from the November 2021 highs is worse than the COVID crash.

One of the favorable elements of the Bitcoin network from an analytical standpoint is the vast sum of transparent data available to us.

When evaluating equity securities, analysts are often at the mercy of CEOs, auditors, and management. This is a problem considering these parties are often wrong, lie, or are blatantly fraudulent in rare cases.

This is why evaluating money flow through the study of technical analysis can provide so much edge beyond arbitrary fundamental data.

When it comes to the Bitcoin network, all transactions between market participants on-chain are visible on a public ledger. This allows data scientists, like those at Glassnode, to categorize transactions.

In traditional markets we're often limited to price action. Though price action is, obviously, still No. 1, we have a wider toolkit available to us in crypto.

One of my favorite classes of on-chain indicators includes those that evaluate the profitability and loss realization of market participants.

At the end of the day, coins changing hands drives true value, which, in turn, drives prices. Profitability metrics give us a great level of granularity about this flow.

One of the elementary metrics in this field is the realized price, which is merely an aggregation of the cost basis of all coins transacted on-chain.

Very generally, this is the on-chain equivalent to the volume-weighted average price (VWAP) anchored to inception.

The most appropriate application of the realized price is to simply evaluate when the average market participant either holds unrealized profits or losses.

When it's the latter, it's generally been advantageous to aggressively dollar-cost average into Bitcoin with a long-term time horizon.

Source: Glassnode

I've done very little in the way of trading short-term price action.

I've poured much of my crypto capital into simply dollar-cost averaging when Bitcoin fell below the realized price in June. This is the right strategy for both my time horizon and risk tolerance.

Another insightful profitability metric is to evaluate the realized price of relatively liquid coins relative to that of illiquid coins that haven't been transacted in some time.

The green line represents the realized price of short-term supply (STH), while the blue line tracks the realized price of long-term supply (LTH).

Naturally, liquid supply tracks rather closely to current market prices, while coins that haven't moved in some time will move with a greater lag:

Source: Glassnode

The green zones represent when long-term holders' cost basis is above that of short-term holders.

Further breaking down coin maturation is evaluating the price at which different coin ages are being spent.

The red line tracks the spent price of relatively liquid coins that have moved fairly recently, and the blue line tracks the spent price of coins that haven't moved in some time. The bottom pane is merely a ratio of the two.

Simply put, the below chart documents the average price at which coins are sold depending on how long they've been held:

Source: Glassnode

Long-term holders, on average, selling at a higher cost basis (lower profit multiples) than short-term holders has generally marked long-term bottoms.

The question is why.

In deep capitulation events, even the strongest hands get purged from the market.

By definition, the coins that haven't moved in a long period of time are held by high-conviction holders. When these holders sell at low-profit multiples, it can be said they've capitulated.

We probably don't need these fancy metrics to tell us what we already know: People are hurting.

At the same time, capitulation is a favorable sign for those who want to average back into the market.

I generally think DCAing is only appropriate for Bitcoin for now. I'd never average lower on alts because the probabilities of success are so heavily skewed against us.

Many have lost money averaging alts all the way to zero. I'd only feel comfortable DCAing into alts when they start trending higher.

When it comes to Bitcoin, there's a reasonable argument to be made that it's the opposite.

It's been advantageous to DCA heavily into nasty drawdowns and to stop buying on breakouts and when prices are nearing all-time highs.

Some see red candles and fear.

I see Bitcoin sitting below everyone's average cost basis and trading at historical extremes.

I'll take the other side of their fear.

Allstarcharts Team

Please reach out if you have any questions.