The correlation of Bitcoin and short-term gold is not a sign of comparability

The one-month Bitcoin (BTC) and gold correlation reached a record high of 68% when Bitcoin reached $12,000 in early August, but the correlation fell by 20% the following week. Despite this, Bitcoin looks like it will turn into digital gold by 2020 considering price correlations and futures market trends.

Both gold and Bitcoin are having a phenomenal year in terms of returns so far this year. According to Skew Analytics, gold has a 27.93% return from a year ago to date while Bitcoin has accumulated 71.68% from a year ago to date. Although Bitcoin sees much higher volatility than gold, it seems that in these uncertain and pandemic-affected times, investors are gravitating toward valuable storage assets like gold and Bitcoin.

Same but Different

Bitcoin and gold are very different assets in the traditional sense, which is mainly due to liquidity, as both are in different phases of their life cycle as assets. Gold currently has a market capitalization of about $9 trillion, while Bitcoin’s is only $228 billion.

These important differences aside, gold and Bitcoin are associated largely because of two similarities: both assets are „mined“ and their scarcity leads to inelastic supply. The latter means that no matter how much the price of the asset increases, supply cannot increase due to production constraints. Commodities with an elastic supply would not be scarce and therefore cannot be considered a store of value. Dan Koehler, liquidity manager of the OkCoin exchange told Cointelegraph: „While any asset can have value based on supply and demand, the limited availability in gold and BTC gives it a unique blueprint as a store of value.

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Although gold is an asset that is considered a store of value, in terms of use, it has some applications in the electronics and jewelry industries, and is used predominantly by governments and central banks as a store of value for their fiat currencies, while Bitcoin is used purely as a store of value for investors.

Koehler also pointed out that Bitcoin’s volatility is detrimental to the „digital gold“ title, as it appears to be becoming a security asset:

„Bitcoin has struggled to maintain this title as well, but its periods of high volatility in the past have prevented it from capturing more market share for this title. Dennis Vinokourov, the head of research at BeQuant – a cryptomoney exchange and institutional brokerage provider – told Cointelegraph that Bitcoin’s maximalists admire deflationary assets, adding, „Given gold’s safe haven and inflation hedge status, it’s probably the only other asset that looks a bit like what Bitcoin’s proponents represent.

Although correlations are often used to compare two assets in financial markets, Vinokourov also warns investors to focus on Bitcoin’s diversification rather than relying too heavily on correlation values over several time frames:

„While the 1-month correlation between the two has increased recently to 68%, the much more widely used 3-month measure is at a mere 15%, while the longer duration, such as 1 year, the correlation coefficient is even lower. Therefore, caution should be exercised when constructing an investment thesis based on the above measures, and instead it may be better to focus on Bitcoin’s diversification capabilities.

It is important to note that over longer periods, Bitcoin Trader is largely uncorrelated to all the major assets available to investors. The correlation with traditional assets is usually between 0.5 and -0.5, suggesting that the relationship between their returns is extremely weak.