Since its launch in 2009, Bitcoin has become an increasingly popular investment. It is now one of the most popular alternative investment vehicles for both retail and institutional investors who want to diversify their portfolios with an uncorrelated asset. But what factors determine Bitcoin’s price? Why does the cryptocurrency’s price change over time? How can you take advantage of it? Let’s dive right in.
While traditional currencies are issued by central banks, Bitcoin and altcoins are not issued or controlled by any central body, as they were created around one key concept – decentralization. This means that what typically influences the price of fiat currencies, like monetary policies, fiscal policies, and inflation rates, do not directly influence the price of Bitcoin.
As a new asset, there are not much historical data to analyze and therefore better understand what truly affects the price of Bitcoin. But what we do know today is that Bitcoin’s price is mainly influenced by the supply and demand of Bitcoins.
To create and introduce new Bitcoin tokens, the BTC network relies on a process called mining. By checking and accepting Bitcoin transactions, miners create a new block of Bitcoin transactions that they add to the blockchain. The miner being able to verify and add one block is rewarded by a certain amount of newly created BTC coins.
The reward, which is 6.25 BTC today, is divided by 2 roughly every 4 years through a process called halving. The changes in the value of miner rewards directly influence the inflow of newly created Bitcoins in circulation, which impacts the price of the cryptocurrency, especially in relation to the total agreed number of Bitcoins that will ever be created – 21 million.
While the supply of BTC tokens is capped at 21 million coins, the demand varies depending on market sentiment, Bitcoin’s acceptance, as well investor support. The changes in the market’s demand compared to the supply can trigger impressive price movements traders usually take advantage of.
Trading Bitcoin’s price movements can be done with different kinds of instruments, like CFDs, Futures, Options, and (in some parts of the world) ETFs or ETPs on Bitcoin, through a broker or a cryptocurrency exchange. The kind of instruments and platform you use depends entirely on your trading strategy and goals.
Another important factor influencing Bitcoin prices is the level of Bitcoin acceptance in the world, especially among investors. Investors can strongly influence the market, particularly institutional investors such as large banks, hedge funds, and international companies. Recently, many organizations have been accepting Bitcoin as a means of payment (Tesla), investing in Bitcoin as a way to store value and cash (MicroStrategy), and offering new ways to buy and own Bitcoins (PayPal).
The increasing popularity of Bitcoin has also pushed many governments to ban or restrict the use of BTC and other cryptocurrencies. Other regulatory bodies are simply thinking about how to classify and better regulate digital assets to provide a safer environment for those who want to use them or develop products and services based on Bitcoins and altcoins. This often creates uncertainty about how these new rules will impact the market, which in turn influences prices.