Why other corporates won’t chase Tesla into Bitcoin

Speculative bitcoin flows surge following Tesla’s announcement

Tesla’s announcement this week that it has invested$1.5bn in bitcoin or 8% of its corporate cash reserves surprised markets by the magnitude of the purchases and re-invigorated expectations that other corporates will follow with their cash reserves. Although we are skeptical that Tesla is a typical corporate and its example will be followed by more mainstream corporates, we recognize that Tesla’s announcement broadens corporate sponsorship, after a gap of fivemonths with no corporate treasury announcements beyond MicroStrategy and Square last August. In our opinion, the main issue with the idea that mainstream corporate treasures will follow the example of Tesla is the volatility of bitcoin. The typical portfolio of a corporate treasury consists of bank deposits, money market funds and short-dated bonds. As a result, the annualized vol of a typical corporate treasury portfolio is around 1%. This implies that even small allocations of 1% to bitcoin would cause a big increase in the volatility of the overall portfolio. For example, if a corporate treasurer allocates 1% of her1% vol portfolio to bitcoin, the overall portfolio volatility will rise from 1% to 8%. This is because of the large 80% annualized vol of bitcoin.

Irrespective of how many corporates eventually follow Tesla’s example, there is no doubt that this week’s announcement changed abruptly the near-term trajectory for bitcoin by bolstering inflows and by helping bitcoin to break out above $40k. This reduces one downside risk that we saw previously with bitcoin, i.e. the idea that if its price fails to breakout above $40k, the momentum signals would keep decaying till the end of March, inducing further unwinding by momentum traders. The opposite is now happening. With bitcoin breaking out above$40k, momentum traders are forced to amplify the current up move by rebuilding their long bitcoin futures positions.

Indeed, our position proxy based on CME bitcoin futures, the preferred vehicle of momentum traders and other speculative investors, saw a sharp almost$1bn increase this week (Figure4) pointing to intense buildup of futures positions. As a reminder to our readers, to infer positioning in bitcoin futures, we use our open interest position proxy methodology that we also apply to other futures contracts, where we look at the cumulative weekly absolute changes in the open interest multiplied by the sign of the futures price change every week. The rationale behind this position proxy is that when there is a price increase, the net long position of spec investors increases also with the magnitude of the increase determined by the absolute change in the open interest. It does not matter whether the open interest rises or falls, as the net long position can increase either via fresh longs (increase in open interest) or a reduction of previous shorts(reduction in open interest).

However, our second proxy for the institutional flow into bitcoin, i.e. the flow into the Grayscale Bitcoin Trust (GBTC) has not exhibited similarly strong impulse. GBTC looks more subdued close to $300m per week relative to the torrid $500m per week pace seen in December. And this makes the current backdrop for bitcoin somewhat different to last November/December when its price was hovering just below$20k. At the time, we had argued that if the bitcoin price had failed to break out above $20k, the momentum signals would have naturally delayed until the end of January creating negative dynamics for bitcoin. Luckily, at the time the institutional flow impulse behind the Grayscale Bitcoin Trust had accelerated by so much in December that bitcoin managed to break out above $20k inducing further position build up rather than position unwinding by momentum traders. At the moment, it looks like the additional flow impulse that helped bitcoin to breakout above $40k came from more speculative institutional investors like those behind bitcoin futures rather than the ones behind the GrayscaleBitcoin Trust. In addition, there appears to have been an increase in the flow impulse by retail investors also this week, as suggested by the spike in volumes at it Bit i.e. the exchange via which retail purchases via Paypal are routed (Figure6).

In all, while bitcoin got another boost with Tesla’sannouncement this week, the 8% allocation of its cash reserves to bitcoin is unlikely to be followed by more mainstream corporates. Irrespective of how many corporates eventually follow Tesla’s example, there is no doubt that this week’s announcement changed abruptly the near-term trajectory for bitcoin by bolstering speculative institutional flows via bitcoin futures as well as retail flows. How sustained this week’s price surge becomes would depend in our opinion on whether less speculative institutional flows like those behind the Grayscale Bitcoin Trust follow suit.