Quarterly analysis: What’s new on the blockchain? Christopher Attard
After surpassing expectations to historic highs in December of last year, cryptocurrencies – which in large part are digital cash built on some offshoot of blockchain technology – lounged across a number of speculative market handles during the first quarter of this year.
In the cryptocurrency universe, 2018 was kicked off with an unsettling climate throughout the industry, partly due to regulatory uncertainty and a significant market-descent after Bitcoin soared close to the $20,000 mark back in December of last year.
But now that we’re well into the second quarter, several market analyses have emerged in the space. Being interested in the budding space both personally and professionally, here’s my take on the first quarter of this year’s cryptocurrency markets which is in part based on CoinDesk’s quarterly “State of Blockchain” report, among other data points.
A clear win for crypto bears
After the all-time high of nearly $20,000 in Q4 of 2017, Bitcoin got slammed by a 70% decline to the $6,000 playing area – destined to fluctuate below $10,000 for the coming months. Other fundamental metrics, like transaction counts and transaction volumes – which are the number of shares traded in a given time-span – saw similar drops.
In fact, most altcoins seem to have followed the Bitcoin mothership and mirrored its behaviour, with correlation coefficients of returns ranging from 0.7 to 0.9. When putting it all together, the entire cryptocurrency market cap lost around $340 billion – with many late investors undoubtedly tearing their hair out.
While these numbers might look grim, one could opt to take the broader picture into context and not let fear, uncertainty and doubt (FUD) take over. In fact, these figures barely registered on market sentiment, at least according to 80% of CoinDesk’s 50-question survey respondents, who thought the bear-market to be short-lived.
Asked for reasons why these events took place, 86% said the downward correction was due to unfiltered and ultra-hyped speculation in the previous quarter, while 62% said that looming regulation was a discouraging factor.
CoinDesk is a leading events and information media outlet that focuses on crypto assets, blockchain and its community.
Baby steps towards crypto market maturity
After the introduction of Bitcoin futures market in Q4 of 2017 – which are financial contracts with obligatory buy or sell orders at a predetermined date and price – both short and long positions generally experienced growth. A short position is a strategy in which an investor sells shares off borrowed stock with the expectation that the stock will decrease in time, at which point s/he will purchase the shares, return them to the broker and take the difference as profit. Alternatively, a long position is an investment that expects a rise in the value of the purchase asset.
Short positions outnumbered long positions from the beginning of January, where Bitcoin was still at a relative high point, in part describing the market downturn.
In the first quarter, short-term pessimistic traders took advantage of the bearish market, with CBOE Futures weekly contracts ending at about 5,000 and long positions ending at 3,000 contracts. The over-representation of short positions seems to have contributed to the slide in the asset class, though it’s unclear to what extent the market slide influenced Futures contracts instead.
However, researchers at the Federal Reserve Bank of San Francisco said: “The new investment opportunity led to a fall in demand in the spot Bitcoin market and therefore a drop in price.”
Miners brush off the slump
As was to be expected, Bitcoin miners weren’t phased in the slightest by the dips, largely because mining rewards still outweigh electricity costs – though this could change depending on the market and the increasing difficulty of solving BTC blocks. As the market cap plunged further into the red, miners brushed off concerns, with the hashrate, i.e., the amount of processing power required for the Bitcoin network to function, growing 47% over the time period – the same as that in Q4 of 2017.
Bitcoin was the obvious winner in this regard, with one of its competing forks – Bitcoin Cash – averaging just 12% of that of Bitcoin in Q1. These findings are consistent with general perceptions of miners, who tilt towards seeing things in the long-term, and in doing so offer a counterbalance to short-term market pessimists.
Taxes loom in unfamiliar territory
To nobody’s surprise, taxes were quite high on the list of priorities for law-abiding investors, with US liabilities alone accounting for $25 billion in tax revenue for 2017, according to research by Fundstrat Global Advisers. Virtual currencies led by Bitcoin grew $590 billion in 2017 in terms of market value, compared with an $11 billion increase in 2016, Fundstrat said, estimating that 30% of crypto holders are in the United States.
It’s safe to say that as more
In the cryptocurrency universe, 2018 was kicked off with an unsettling climate throughout the industry, partly due to regulatory uncertainty and a significant market descent after Bitcoin soared close to the $20,000 mark back in December of last year.
Governments release these figures, total global tax revenues will increase significantly. In CoinDesk’s survey, 31% of respondents said they paid taxes on gains, but the number of those obligated to pay taxes might be higher than those who reported their profits.
Still, taxation remains vague in the sector. Eighty-two percent of US-respondents said they could not understand their liabilities, while 62% of non-US respondents said the same thing. This lends credence to the idea that investors, traders, crypto enthusiasts and even regulators genuinely have little to no clue about the legal and tax status of the entire, emerging class asset(s).
In some sense, this is to be expected in a market that has yet to be fully understood.
Initial Coin Offerings (ICOs) continue to grow
ICOs maintained their upward trajectory, with $6.3 billion raised in the first quarter. In addition, each month in the first quarter drove more investment capital than in the record amount set in December of last year.
Telegram – a messaging app similar to Whatsapp – had raised $1.7 billion before cancelling its ICO (possibly due to regulatory pressure by the SEC), accounting for over 25% of the funding for the first quarter. Dragon’s ICO – a service that allows businesses to implement blockchain technology to secure their databases and execute smart contracts without any technical expertise - was next in line, raising $320 million.
Broadly speaking, while funds increased, the number of ICOs declined from December’s high of 78, save a slight uptick in March. While the reduction might be construed as a bearish signal, CoinDesk’s survey found that 40% of respondents participated in an ICO – up from 30% last quarter.
Transaction costs fall; Scalability tackled?
Fees fell from highs averaging at around $40 set by the crypto frenzy in Q4 2017, to $9.49 per transaction. BTC fees stand at about 1$ at the time of writing. This is in large part due to lower transaction volumes, which is also a measure of demand. In fact, as more people got on the Bitcoin bandwagon last December, there was a massive surge in fees due to Bitcoin’s memory pool (i.e. the number of pending transactions on BTC nodes) being overwhelmed. Bitcoin’s 24-hour volume peaked at $22 billion in December compared to February’s $14 billion. This corresponds to the idea that a reduction in transactions lowers fees up to a point while also implying a slide in demand.
Meanwhile, Tech updates like SegWit and the Lightening Network seek to address perpetual issues of scalability, which includes transaction fees. In fact, SegWit or Segregated Witness is looking to improve the network by increasing the block size limit on the blockchain through the removal of signature or Witness data from Bitcoin transactions. The update also allows for second-layer technology to be implemented in the network.
This is where the lightning network (LN) comes in - a beta tech update rolled out in March. The secondary-layer solution moves payments off the main blockchain onto a subsidiary network and purportedly allows users to make payments instantly at almost no cost.
The updates are part of a larger debate about the appropriate block size for Bitcoin, which is in turn nested inside a larger debate about scalability. Bitcoin Cash – a hard fork from Bitcoin – attempted to address the issue by increasing its block size from 1MB to 8MB, but this is still a very contentious issue which in a way, creates more questions than it answers.
Many other factors are at play in this highly speculative market, but the SegWit and lightning network updates undoubtedly mark a historical and technological landmark in the flagship’s effort to implement solutions to its scalability problem.
Asking participants what they thought of the LN update, 79% of CoinDesk respondents said they saw lightning as a positive development and look forward to using the updated protocol. In contrast, 21% think it will make Bitcoin more centralised – as they claim that it goes against the underlying ethos of total decentralisation.