The growing Israel-Iran conflict in early April has fueled several Bitcoin and crypto price crashes, busting a myth that cryptocurrencies can serve as hedges against global uncertainties.
Bitcoin enthusiasts always have myths to defend the digital currency and its peers. One of the myths held in the early days was that Bitcoin is a hedge against inflation, as it isn't subject to the manipulation of central governments. It's also sold by Wall Street to "diversify" portfolio risk.
"Bitcoin should be treated as a hedge against inflation and central banks' spoiling of currencies," Michal Rozanski, Co-founder, and CEO at Empirica, told International Business Times.
But he sees it as a long-term rather than a short-term hedge. "In the short term, our data shows a high correlation of Bitcoin with other risky assets, especially technology stocks. Moreover, we always expect nervous reactions to global events, which will usually be stronger than, for example, shares. However, a long-term weak correlation with traditional assets means diversifying investment portfolios with crypto still makes much sense," Rozanski said.
However, the reality has proven otherwise. Bitcoin doesn't show any strong correlation with inflation. For instance, Bitcoin prices collapsed from early 2021 to early 2022 when inflation accelerated.
Then, from late 2022 to the end of 2023, Bitcoin rallied toward new highs when inflation receded.
More recently, in early April, when CPI data came stronger than expected, Bitcoin moved in the other direction.
Another myth Bitcoin enthusiasts embrace is that the digital currency is a hedge against global uncertainties, side by side with gold.
Still, the reality is quite different here, too. Bitcoin hasn't risen during rising geopolitical tensions. Instead, it has moved in an erratic fashion, as the recent escalation of Israel-Iran tensions demonstrates. In the last month, gold has been rising steadily, up 11.5%, while the digital currency has been all over the map, down 0.6% for the month.
"Some crypto advocates as digital gold have likened Bitcoin and other cryptocurrencies," said Robert R. Johnson, PhD, CFA, CAIA, Professor of Finance, Heider College of Business, Creighton University. "That narrative simply isn't consistent with the empirical evidence. Cryptocurrencies act as speculative assets and not as hedges against global uncertainty. The price activity of these cryptocurrencies is fueled by speculative optimism and liquidity in the financial markets."
Stephen Kates, CFP, Principal Financial Analyst for Annuity, agrees. "Bitcoin is primarily a speculative risk asset and has no inherent hedging capabilities," he said. "It is quite the opposite. Bitcoin's performance is tied very closely to the performance of stocks, especially technology stocks, which have also been performing poorly recently. This correlation was demonstrated best during the COVID Crash in March 2020 and again in 2022, when nearly all assets lost substantial value as inflation spiked."
Michael Edesess, who taught cryptocurrency courses at Hong Kong University, believes that seeing Bitcoin as a hedge against geopolitical events is a fantasy.
"Why on earth would Bitcoin be a hedge against global uncertainty? What structural features of Bitcoin would lead anyone to draw that conclusion? This is yet another fantasy spawned by those who want to see something magical in Bitcoin (and in "blockchain")," Edesess said.
Basile Maire, the co-founder of D8X, and a financial engineer, has a good explanation of Bitcoin's price action during the Israel-Iran conflict.
"One financial effect of the conflict in Israel was the strengthening of the U.S. dollar, as measured by the U.S. Dollar Index," Maire told IBT. "This is a move towards safety as Portfolio managers reduce exposure to high-volatility assets in these situations. Bitcoin has one of the highest historical volatilities in a portfolio, comprised of stocks and bonds, so portfolio managers sell Bitcoin to reduce their portfolio volatility effectively. When Bitcoin drops, altcoins typically follow – daily return correlation is usually above 60%."
Maire believes political events often have a short-lived impact on financial markets. "From the standpoint of portfolio management, it's understandable that Bitcoin and other cryptocurrencies may experience sharper declines compared to stocks and other traditional assets in this situation," he added.
Edan Yago, a core contributor and head of Sovryn, a Bitcoin DeFi project, still believes in Bitcoin as a hedge against uncertainties. "For the vast majority of people who hold it, Bitcoin is a long-term store of value and a hedge against uncertainty," he said.
Meanwhile, he blames highly leveraged day traders for digital currency's volatility. "Short-term traders impact day-to-day trade, and many of them are highly leveraged," he said, adding, "As a result, adverse market conditions negatively impact Bitcoin's price in the short term."
Yago thinks higher global uncertainty benefits Bitcoin's valuation over medium—and long-term horizons.
"People frequently confuse short-term and long-term effects, but entirely different market participants drive them," he added.
