Overnight the price of bitcoin seemingly plummeted out of nowhere in what has been a rough few weeks for the crypto currency, however, fear not. The stock to flow model that is so coveted by many in the bitcoin space continues to prove itself as invaluable and highly accurate at predicting the price of bitcoin.
The above image is chart showing the actual price of bitcoin since it’s inception against the greyed out predicted trend line that the stock to flow model believes the price of bitcoin will follow. The untrained eye will spot and ask two things by looking at this graph. How does the model work? and Why has the price of bitcoin not exactly followed the model’s prediction (i,e in 2014). Those would be great questions to ask and here are the answers.
How does the model work?
The general definition of a stock to flow model is that it’s a way of measuring the abundance of a resource such as bitcoin against the amount of that particular resource that is available. The ratio you arrive at from a given resource is the number of years it will theoretically take to amass the total supply in the market given current rates of mining. So, in the case of Bitcoin, we look at the amount of the crypto mined against how much we know has been mined in total (not the total amount of bitcoin that will ever exist).
So how does the model predict the price of bitcoin? Since the start of the most recent halving in May 2020, the number of bitcoin that can be mined reduced by 50%, as a result, the amount of supply entering the market is now lower than before which causes the stock to flow ratio to increase significantly. A higher ratio over time increases the price of bitcoin due to the pressures of demand overweighing supply.
The graph you are looking at shows that since the middle of May 2020, the price of bitcoin has had a sustained increase inline with the models prediction. It will however stagnate going into next year and until the next halving. Why? Scarcity. The amount of coins available will remain roughly the same with the coins being traded freely even if the number of trades are smaller than before.
Why does the stock to flow model sometimes get it wrong?
It doesn’t. The price of bitcoin is able to under and overshoot every single month, however, the trend line of price movement has remained roughly accurate. This is such a common phenomenon that some even think that it’s entirely possible for bitcoin to reach $300k a coin by the end of the year (but will come back crashing down to be inline with the model shown in the graph).
Nothing. Relax, enjoy the next few months. Be a long term holder in the crypto currency and reap the rewards in the future.
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