What is Crypto Decoupling? And Why Crypto Diehards Are Hoping For It
Key Questions Answered
- Coupled assets are assets that move together in the same direction in terms of value. Decoupling occurs when these assets start to move in opposite directions.
- Crypto decoupling occurs when Bitcoin’s price action moves independently of prices in the stock markets like S&P 500 or Nasdaq.
- Crypto proponents see a Bitcoin-stock decoupling as a sign that crypto has reached a newly established level as an asset class.
What is decoupling?
In stock/crypto trading, decoupling is a term used to describe the occurrence when the value of two assets do not move in tandem with each other. On the same note, coupled assets are assets that move together in the same direction in terms of value.
The coupling and decoupling of assets can be measured on a “correlation” scale ranging from 1 (fully coupled assets) to -1 (fully decoupled assets). The closer two assets move together in value, the closer the correlation is to 1, and vice versa.
Why does decoupling happen?
Assuming that markets are mainly driven by investors’ confidence in them, one clear reason for decoupling would be loss of confidence in one of the coupled assets. This loss of confidence or interest can be the result of myriad factors from political to economic, regulatory, industrial, and geopolitical.
Say you’re interested in the electric car (EV) market—one of the largest consumers of lithium. Naturally, electric car stocks and lithium mining stocks enjoy a high level of positive correlation. Now suppose that a company releases a better-performing, sustainable and lithium-free battery.
In this hypothetical scenario, we would expect electric car stocks to go up due to EV manufacturers offering a better product. In contrast, lithium stocks will go down, hence “decoupling” from EV stocks due to decreased demand for lithium.
Investors pay attention to the decoupling of assets mainly to identify opportunities for portfolio diversification.
What is crypto decoupling?
There are two main ideas when talking about crypto decoupling:
- Bitcoin’s correlation to all other cryptocurrencies known as altcoins.
We will talk about the first idea in this section.
The foundational idea behind cryptocurrency is that it will disrupt the traditional financial and monetary systems, including how people invest and trade.
As such, in the context of crypto, decoupling refers to the much-hoped-for divergence in price movement between crypto and other asset classes, mainly stocks. This is so that crypto can effectively act as a hedge against the volatility in the other sectors. For crypto to be a solid alternative to stock investing, the two asset classes cannot be closely correlated. If they are, investors will have two groups of high-risk assets that perform similarly.
In an ideal scenario, the “big crypto decoupling” will happen like this: crypto will shoot up while stocks will tank. This will make crypto more attractive to investors at the expense of the competition—the stock market. When (although “if” is perhaps a more appropriate term) this happens, it will signal Bitcoin’s “arrival” as a mature asset class and inflationary hedge.
At the moment, however, this seems to be more a pipedream and less an inevitable promise, as the data below shows.
When Will Bitcoin Decouple from NASDAQ?
This is the million-dollar question at the heart of the topic.
Decoupling of Bitcoin from major stock indices not only hasn’t happened, but Bitcoin has actually grown in positive correlation with stocks, especially since 2020 when the pandemic happened.
Bearing in mind that a correlation rate of 1 signifies the strongest level of coupling between assets, at certain times, the 40-day correlation between the NASDAQ and Bitcoin was as high as 0.6945, according to Bloomberg data from April 2022. This means that often, prices of high-cap crypto assets and stocks are increasingly moving in the same direction.
It’s the same story with non-tech stocks–according to data from Arcane Research, the 90-day correlation between Bitcoin and the S&P 500 has risen to 0.59 in March 2022, the highest since October 2020.
It seems that the more uncertainty there is in the market from factors such as continuing COVID19 surges, Russia-Ukraine war, inflation and interest rate hikes, the higher the correlation is between stocks and Bitcoin. This is not exactly surprising, as most people are treating Bitcoin as a high-risk stock at the moment i.e. they see both stocks and crypto as similar “risk-on” assets.
What caused this, considering the irony that Bitcoin started out as completely uncorrelated to any of the traditional asset classes?
In hindsight, the Bitcoin rally in 2020 that sent its price going up by more than 300% that year alone was a double-edged sword. The price surge had caused institutional investors to sit up and take Bitcoin more seriously, and as more and more of them started allocating a part of their portfolio to BTC, Bitcoin, and by extension all other crypto, has come to be treated as risk-on assets just like stocks.
Some analysts are of the opinion that crypto will “never” decouple from stocks, but as with all things in crypto, never say never.
Correlation of Bitcoin, SP500, Nasdaq 100 (Source: TradingView)
On a side note, you may also hear about decoupling in the context of Bitcoin “forks.” Where blockchain is concerned, “forks” are like splits of the blockchain which happen when the blockchain undergoes major changes. It is called a “fork” because it resembles a road split (fork). This, however, is not part of our current topic.
Many crypto enthusiasts are hoping that BTC will start to move independent of stocks and other traditional asset classes. Similarly, altcoin supporters look forward to the day when decoupling will happen for altcoins and Bitcoin (altcoins is an encompassing term referring to any cryptocurrency that is not Bitcoin.)
At the moment, all altcoins are positively correlated to Bitcoin in terms of price–this is generally not favored by investors as it makes it very challenging to create a diversified crypto portfolio.