Blockchain Analysis Strategy Investing (BASI)

A useful mid-point between passive HODL and high-risk margin trading.

Two of the most commonly discussed investment strategies within the Bitcoin space are HODL and margin trading. To summarize:

• HODL: continuing to hold your bitcoin no matter what happens to the price, in the belief that their value will rise over time.
• Margin Trading: placing trades on whether the price will go up or down. Which can be done with leverage (margin) to magnify potential gains.

Both have their merits but also have issues.

If you had HODL’ed since last year’s December high, the value of your bitcoin would currently be down 83% (as of Dec 2018). I know you’re probably sick of hearing that statistic but bear with me, it’s worth mentioning in this context.

The reality on the opposite end of the spectrum, if you were margin trading, is that you too have most likely lost money over the last 12 months. That is because 90% of crypto traders lose over time. The reasons for this are explained elsewhere and are worth looking up if you did not know this and are considering crypto margin trading. In summary though, it comes down to the risk you expose your funds to by using leverage. That risk is then magnified in the highly volatile crypto markets.

So either way, it’s probably been a pretty tough year for your overall Bitcoin stack.

There is another way though, which doesn’t require you to be a top trader and also doesn’t punish you for being consistently exposed to Bitcoin’s volatility. Blockchain Analysis Strategy Investing (BASI) can act as a very useful mid-point between these two extremes. It doesn’t use the risk of margin trading but is more adaptable than simply HODL’ing.

Blockchain Analysis Strategy Investing (BASI) sounds a bit fancy. It merely means using blockchain data to inform investment decisions.

There are a number of blockchain analysis tools that have been developed over the past 18 months. In this article, I will share an investment approach that uses three of them.

Before we get into the detail, let’s look at how using blockchain analysis tools in a simple BASI investment strategy would have performed versus HODL’ing over the past 5 years. For this example, we will use $1000 as our initial investment. The timing of the BASI actions listed in the table won’t mean much at this stage until we get into the detail of the approach so for now, let’s just focus on the values over time:

Table 1: BASI vs. HODL

We can see that using BASI instead of HODL’ing would have made an additional $2.15m over the past 5 years from the initial $1000 investment. We can also see that BASI is not particularly labour intensive, requiring action to buy or sell at just six different times over those 5 years.

So let’s take a look at the three tools, and how we can build a simple investment strategy around them.

The three blockchain analysis tools we use to build the above BASI strategy are:

1.Network Value Transactions Signal (NVT Signal):

Maps the relationship between network value (price x number of coins in circulation) of Bitcoin relative to the amount of daily transactions recorded on the blockchain in USD terms.

By using a 90 day moving average of the daily transaction values, it is used to predict market tops and bottoms.

2. Bitcoin Network Momentum (BNM):

Maps value transmitted through the Bitcoin blockchain in BTC terms comparing it to Bitcoin’s price.

Provides leading indicator insight to Bitcoin price, in that we need high levels of blockchain value throughput to drive the Bitcoin price bull market.

Therefore useful as a signal to accumulate bitcoin ahead of the next bull market.

3. Market Value to Realised Value Z-Score (MVRV-Z):

Market Value = price x number of coins in circulation.

Realised Value = coins in circulation assigned the price when they were last transacted rather than today’s price. This takes into account coins that have been lost and those which will be long term HODL’ed for many years.

MVRV looks at the difference between these two values for Bitcoin as a way of showing when the price is under or over-valued.

MVRV-Z score looks at the standard deviation between these two values. Using the extreme standard deviation scores allows us to pick the tops in Bitcoin’s price with a high level of accuracy.

These three tools allow us to layout a simple investment strategy. As an investor, we want to know when are the best times to buy, sell, and to hold.

In this instance we will break that down a little more to reduce risk and also provide a degree of flexibility depending on an individual’s risk appetite:

• Buy: accumulate by cost averaging in over 5 months
• Buy: aggressively around price capitulation
• Sell: option 1
• Sell: option 2
• Hold

We can then apply the three blockchain analysis tools to this strategy. Note: you will need to be familiar with the articles (hyperlinked above) explaining each of these tools to fully understand the buy/sell signals in this table.

When using this approach over the past 5 years we achieve the results shown in table 1.

For clarity, the data in table 1 assumed the following simple approach to buying and selling:

• Buying in the BNM Late Bear market phase was split 75% aggressive, 25% accumulate.
• Accumulation buying is split equally over 5 months, selecting the price at the start of the first weekly candle of each month to accumulate.
• Cost average selling uses Option 2 (MVRV-Z), purely for simplicity of calculation in this example. We split the cost averaging across two weeks from the moment the 6 standard deviations is hit. Split equally across weeks 1 and 2.

To visualise when the signals would have taken place:

You can see that while the BASI strategy didn’t quite catch the absolute tops and bottoms, it came very close. That is what magnifies the percentage gains over time versus just HODL’ing.

It is around the extremes in price where people’s emotions are heightened. This can result in them not making the correct rational decision. Using a BASI approach helps to remove a lot of the emotions from that decision-making process when it matters most — around market tops and bottoms.

Now we have reviewed the tools and the BASI strategy, here is a final reminder of how it would have performed over the past 5 years versus a HODL strategy:

That’s a 246,689% increase using the BASI approach versus 31,359% for HODL’ing.

Final thoughts

It’s important to remember that as layering evolves on Bitcoin with solutions such as Liquid and Lightening, these tools will become less effective over time, but I suspect new analysis metrics will emerge to be used alongside these or to even replace them.

So the reason for this article is not to suggest that you blindly follow blockchain analysis metrics such as these, but to demonstrate that there is incredible value in understanding the open-source resource of blockchain data. It can allow you to maximise your participation in what I believe is the most positive and disruptive technology of our generation — Bitcoin.

If you found this article interesting or want to learn more, you can find me on Twitter here.

Acknowledgements and resources:

Here are some links to the tools in this article and their authors. Follow them on Twitter if you want to learn more about blockchain analysis and Bitcoin:

1. Willy Woo’s NVT Signal.
2. PositiveCrypto’s (that’s me) Bitcoin Network Momentum.
3. David Puell and Murad Mahmudov’s Market Value to Realised Value.
4. Awe & Wonder’s MVRV-Z Score.
5. Nic Carters’ Coinmetrics is a useful data resource, as is blockchain.info.

Disclaimer:

The above is not investment advice.

This article referenced a selection of blockchain indicators currently available, all of which are in my opinion still experimental.

I am not suggesting these tools can only be used in isolation. Combining these indicators with traditional technical analysis can provide additional accuracy for entering and exiting positions.