Disclaimer: Your capital is at risk. This is not investment advice.

ByteTree Market Health Update; Issue 92

The art of the HODL [hod’ul], whereby an investor buys and holds bitcoin for the long-term, has been a great strategy for those with the bottle – or the luck. If lots of people buy bitcoin, its price will go to the moon. It is a simple theory, which was tested in the 2013 and 2017 bull markets. It worked extremely well, until it didn’t.

Like all vibrant markets, the more the price rises, the more investors are drawn in. It is during these times that the network is at its most vibrant, and by implication, HODL is at its lowest. In contrast, when the price has fallen, investors give up and turn off the trading app. The network slows and the level of HODL rises as a result.

Anchoring is a bias that is common with investors. It is a feeling by those who paid a higher price that they will only sell if they can get their money back. As investors are anchored to levels, this explains the basis of price support and resistance levels in the market.

Experienced investors are better at dealing with such biases. If they weren’t, they’d have found a new career long ago. A seasoned investor trades based on what they know. If the price has already halved, yet new information suggested it was going lower, they’d sell.

In contrast, an investor that was anchored to a higher level, would hang on, even if they believed the price was likely to keep on falling. By default, this anchored investor becomes a HODLer, and their bitcoin is no longer a part of the network until they switch the trading app back on.

ByteTree has long said that bitcoin’s price is linked to the vibrancy of the network; a theory that has stood the test of time. HODL, where bitcoins do nothing, is the opposite of vibrancy and detracts from value creation. This is not a popular theory as most people assume it’s all about the price squeeze. The fact remains that more bitcoins have been active during bull markets, with fewer in bears.

Limited supply

With a limited supply of 21 million BTC by the end of the century, nearly 90% have been mined with 10% to go. The HODL theory is that new supply is a burden because it reduces scarcity. If a long-term buyer can be found to take the new coins out of circulation, then there will be fewer bitcoins to go around. With supply capped, not only by the decreasing block reward but also the wiliness to HODL, the price will go to $1 million - and soon.

If bitcoins are so valuable, wouldn’t you want as many of them as possible? Imagine an extreme scenario whereby literally everyone HODLed, which meant liquidity fell to zero. Is that good?

I recall back in late 2013, there was an altcoin called Peercoin (PCP) in the top ten. It traded at 1/100th of a BTC. Over the past seven years, liquidity has collapsed, and the price is now 1/50,000th of a BTC. That is not a great result, despite HODL being higher than ever.

Ah, but bitcoin is different as it has the network effect. I agree, but the network is just that - a network, not a pyramid. That means many bitcoiners will be interacting with one another within a growing financial ecosystem. In this instance, many HODLers mistake the network effect for a chain letter that says, “buy bitcoin, pass it on”.

Naturally, there are the second layers, such as the lightning network, which promise limitless, low-cost transactions. That solves the fee problem, which means a huge network could be built. But if everyone’s HODLing, they’ll be no stock-to-flow around the system.

I believe a $1 million bitcoin would behave differently from the HODL model. It would have the widest possible ownership, with low concentration. It would be vibrant, widely accepted and hugely liquid. It would have utility so that when the price fell, there would be willing buyers. Those price falls would be modest because the value buyers would provide stability, and the volatility would fall.

This vision for bitcoin is to be more widely distributed, more liquid and less volatile - precisely what gold is today.

HOLD versus GODL

Gold has its HODLers and there is nothing wrong with that. But no one in the gold market wants to encourage everyone to buy more simply to scoop up the supply. They are happy for the market to do what it does for the right reasons.

Gold’s friend had a go at HODLing in the late 1970s when the Bunker Hunt brothers tried to corner the silver market. From $1.25 per ounce in 1971, the price rose to $50 by 1980. It then spent 12 years falling to $3.50 by 1993. Here we are in 2021, and silver is yet to break above $50. Don’t forget anchoring.

In today’s gold market, new supply is not seen in a bad light because we consume gold in different ways, and not everyone wants the price to rise. A price rise draws in the speculators as it does in every market but, if the fundamentals don’t back up the move, the price soon corrects. Similarly, a price fall sees the jewellers and industrials step in. Or even a central bank. A functioning market sees trading for different reasons, with different motivations, that go beyond the hope for short-term gains.

Gold is valuable because it has been reliable for many years. It is not just liquid today; it has always been liquid - at least somewhere. Its acceptance as an asset is universal, and there is a widespread belief that it will compensate investors for inflation over the long-term. If any of those attributes were threatened, gold would become less valuable in the future.

Just as there is nothing wrong with HODLing gold, there is nothing wrong with HODLing bitcoin. It is just unreasonable to expect HODLing to create value. That is the job of the growth in the network.

Just imagine a massive bitcoin squeeze, and literally everyone HODLs as the price rises to $100k, then $500k, then $1m. HODLers becomes heroes while the crowd goes wild. What happens next? Best ask the Bunker Hunt brothers.

Bitcoin doesn’t have to be that way. If the focus shifted to the positive outcome of a vibrant and lasting network, away from shoving bitcoins into the freezer, the future could be very bright indeed.