How the halving will affect the Bitcoin market

There are many forces moving bitcoin, but few attract the same level of attention as the halvings (when the block reward is cut in half). Historically, halvings have proven to be important catalysts for bull markets, and while the rate of impact is diminishing, the upcoming halving is likely to be important to bitcoin’s price formation.

This op-ed is part of CoinDesk’s “Future of Bitcoin” package published to coincide with the Halving in April 2024. Torbjørn Bull Jenssen is the CEO of K33.

At K33, we expect speculators to again front the event, as they have done in all previous halving events. Bitcoin rose an average of 14% over the month leading up to the halving, and we wouldn’t be surprised if 2024 matches this. That said, there are many factors at play, and neither we nor anyone else can predict with certainty. But there are certain things we do know for sure.

First, the bitcoin price is always determined by the net demand for owning bitcoin. With a given amount of bitcoin available at any given time, its value must adjust until investors realize their desired allocations, denominated in eg USD.

To make a simplified example: If there was only one bitcoin and two investors each wanted to hold 1000 USD worth of bitcoin, this would only be possible with bitcoin worth 2000 USD per coin and each investor holding half a coin each.

The current inflation rate is around 1.8%, roughly the same as for gold, and will drop to 0.9% at the end of April. This means that without a change in demand, the halving should only cause a 0.9% price increase over the first year after the halving, relative to what would have been the case without the halving.

Without a change in demand, the market capitalization should remain flat. With 1.8% annual inflation in the stock of bitcoin, the price must drop 1.8% for the market cap to stay the same. With 0.9% inflation, the drop would only need to be 0.9%.

The demand for bitcoin is obviously anything but fixed, but ironically, the analysis above proves an important point: While the halving is a supply-side event, all of its impact on price must come from the demand side, as the pure supply effect is an almost non-event.

In other words, the supply side effect appears to be irrelevant. But this is not 100% true. The reason is that many bitcoin hodlers are fully invested. They will continue to hold if the price goes up, but they run out of USD to buy BTC for. The price is therefore to some extent determined by the balance between the marginal buyer and the marginal seller, since the total portfolio demand is endogenous and to some extent determined by price.

To make a simplified illustration of the point: Imagine that all existing coins are held by strong hands that do not sell. Miners have to sell to cover costs, but no one has to buy. A halving in the supply of new bitcoin will, for a given rate of inflow of new USD to bitcoin, result in a doubling of price. Once the price has doubled, half the number of coins will be enough to absorb the incoming USD.

A doubling in price would be a significant move, but looking at recent halvings and popular predictions such as the long-abandoned but still used stock-to-flow model, optimists expect a 10x price increase. This cannot be explained by the halving in isolation, and will only happen if there is a massive increase in demand, which is actually not too unlikely.

The halving can tip the balance between the marginal buyers and sellers, starting a bull market with a feedback loop where more people want to buy when the price rises.

Against this background, more and more people are learning about the halving and the scarcity of bitcoin and find it attractive. In that way, the halving acts as a Schelling point, accelerating the already strong momentum for bitcoin. So it’s not unlikely that we could see a pre-halving pump, followed by a correction, before the underlying growth trend in adoption and awareness drives bitcoin to new highs.

The daily reduction of bitcoin production from 900 to 450 on the halving day (likely April 20) is unlikely to have any immediate impact, but combined with demand that creates awareness, and positive feedback from a rising price, the annual effect is 164 250 definitely material .

The upcoming halving is a known event and should be priced in according to the efficient market hypothesis. Bitcoin is a volatile asset, with a correspondingly high expected future return, but events like the halving should have no predictable effect on the event day itself.

One can of course discuss whether the efficient market hypothesis holds or not. But, judging by the options market, it looks like the halving itself will be a non-event. If anything, traders seem more interested in hedging downside risk with put options than speculating on big upside with ATM (out-of-the-money) call options. In the medium term, there is a bullish bias, but recently we have seen a slow decline in the optimism in the options market.

While speculators are likely to position themselves ahead of the halving event, as in the past, long-term investors should pay minimal attention to the halving itself, focusing instead on the demand side of the market.

As such, perhaps the most important effect of the halving will be its marketing effect for bitcoin and its long-term absolute scarcity in a world of inflationary fiat currencies.