Written by: Juan Leon, Senior Investment Strategist at Bitwise
Compiled by Luffy, Foresight News
On August 5, global stock markets fell into panic, with Japan's Nikkei index falling 12%, the biggest single-day drop since 1987, and the S&P 500 closing down 3%.
Unfortunately, Bitcoin was not immune to the impact, plummeting 14.52% between August 2 and August 5. The sharp correction triggered a lot of questions in the media: Why did Bitcoin fail as a hedging tool? Is Bitcoin really a hedging asset?
Out of curiosity, I decided to dig deeper into historical data. I analyzed how Bitcoin and gold reacted when the S&P 500 fell more than 2% in a single day over the past decade. I then divided the returns into three categories based on how each asset performed on the day the S&P 500 fell:
- Perfect Hedge: The asset achieves a positive return;
- Partially hedged: The asset generates negative returns but outperforms the S&P 500;
- Without hedging: The asset's return is worse than the S&P 500.
I found some of the conclusions more illuminating than those usually reported.
Is Bitcoin a short-term hedge? Not really
The bad news first: Data shows that Bitcoin is an unreliable short-term hedge. In fact, its daily returns appear to have no correlation with stock market movements.
More than half of the time (59% to be exact), it acted as a hedge, either rising sharply or falling less than stocks on days when the S&P 500 fell sharply. But the other 41% of the time, it fell more than the index.
Unfortunately, when stocks fell 2% and Bitcoin underperformed, Bitcoin’s decline was extremely exaggerated, falling an average of 7.80%.
This tells me that not all single-day pullbacks are created equal. Of course, there are different reasons why a stock might drop 2% on a given day. The data suggests that some of these reasons led to a big rise in Bitcoin, and others led to a big drop in Bitcoin.
If you’re looking for a foolproof hedge against a major stock market correction, Bitcoin is not a good choice.
Bitcoin's performance as a hedge asset. Data source: Bitwise Asset Management, Bloomberg, data time range is from January 1, 2014 to August 9, 2024.
Gold's performance as a hedge asset. Data source: Bitwise Asset Management, Bloomberg. Data time range is from January 1, 2014 to August 9, 2024.
Gold fared better. Gold posted positive returns on 54% of the days when the S&P 500 fell sharply, but on average, it was up just 1.05% during that period. This makes gold challenging to use as an effective short-term hedge: You have to own a lot of it to have a real impact on your overall portfolio. If 5% of your portfolio is in gold, that 1% gain will do little to cushion a correction in the 60% of your portfolio in stocks. The other 46% of the time, gold fell an average of 0.99%.
Fortunately, most of us don’t invest for the short term, but for the long term, so I was wondering, how do these two assets perform as long-term hedges?
Is Bitcoin a long-term hedge? Absolutely
The performance of these two assets tells a completely different story. One year after a stock market correction of more than 2% on a certain day, gold returned an average of 7.88%, far behind the stock market rebound. In contrast, Bitcoin's average return was as high as 189.68%.
Average one-year return after a sharp decline in the S&P 500. Source: Bitwise Asset Management, Bloomberg. Data ranges from January 1, 2014 to August 9, 2024.
Why is this the case? Gold is a trusted asset that many people instinctively buy in short-term panics. But the maturity of the gold market means it will not outperform over the longer term. Bitcoin has a limited supply and a decreasing issuance, making it a strong store of value, but it is still early in its adoption phase. As such, it still has the characteristics of a risk-on asset. This means it is more responsive to market pullbacks, and the longer you watch, the better the returns.
The past decade’s market performance clearly demonstrates that buying Bitcoin pays off when the market pulls back.
Will Bitcoin win again?
The most common criticism of the above analysis is that past performance is no guarantee of the future. While this time may be different, I think the outlook for Bitcoin over the next 12 months is very bullish.
Consider the following potential catalysts:
Spot Bitcoin ETP Inflows: Bitcoin ETP inflows have exceeded $17 billion since January, outstripping new supply and driving Bitcoin to all-time highs earlier this year. These inflows don’t even include some of the biggest players. Last week, Morgan Stanley became the first major securities firm to allow the launch of a Bitcoin ETP on its platform. We expect Merrill Lynch, UBS, Wells Fargo, and others to follow suit.
Improved regulatory environment: A bipartisan coalition in Congress has pushed three cryptocurrency bills through the House of Representatives this year. With the Republican Party incorporating cryptocurrency into its official 2024 platform and the Harris campaign reassessing its position, the crypto industry is about to usher in regulatory clarity.
Fed cuts rates: The European Central Bank, Bank of England and other central banks have already started cutting rates. With slowing inflation and weak economic data in the U.S. raising recession fears, the Fed must catch up. Fed funds futures already expect the Fed to cut rates at its September meeting.
Are we out of the woods yet? Probably not yet. Investors remain uneasy about market volatility caused by the unwinding of yen carry trades. Add to that uncertainty over the U.S. presidential election, signs of a global economic slowdown and the threat of conflict between Iran and Israel, and there’s more turbulence to come. But the next time stocks sell off, you’ll know which asset is the best long-term hedge.
