Bitcoin – Market Cycles & Broader Consolidation

When markets become over emotional it is easy for a trader or investor to let down their guard.   We often hear “History Repeats” but what does this imply.  Many believe it has to do with repeating patterns, or moves in the market.  This may be true, but it really speaks to how humans react to the emotions of a market.

“There is a sucker born every minute” – Contributed to P.T. Barnum

Overview:

The same emotions many felt in late 2017 are the same feeling felt here.  The market is moving and the urge is to do something.   This feeling of  missing out, or the fear of losing, leads to euphoric buying and panic selling.  This is why we say history repeats.

We do not know how the market will react, but we know how humans do.  Markets repeat because humans react to the emotional state of the market the same way every time.  The let their emotions take over and disregard rules.

Rules & Discipline:

Ok this time its different right?  Maybe it is.  Regardless, if you want to be successful in the long term you MUST be disciplined and follow the rules.  Rules are in place to provide parameters for when to enter and when to exit a trade or investment.

Imagine a school or workplace without rules.  With no rules there would be chaos, confusion and disorder.  No business would be profitable without rules and guidelines for their employees.  No trader or investor can be profitable either.

Breaking the rules in the hope that “this time its different” is a hopeless strategy.  We have a set of parameters of when and where we take trades and the risk / reward  required to take them.

Not that we don’t take aggressive trades, we do.  The point is, we don’t trade just to trade, we trade when the probabilities are in our favor.

Trading is a Business Treat it Like One:

Many have a hard time understanding there are periods where there are no trades.  They do not understand that high quality trades are rare.  In the end our goal is to be profitable, not turn $5000 into $500,000 in six months. You believe that you are that sucker.

Think of investing and trading as owning your own business.  Many have a false narrative that if you own a business you just print money.  Nothing could be further from the truth.  It is hard work, and it takes time to build up a business.  The same goes for trading and investing.

You need to set the rules and stick to them.  In the end markets are merciless and they will take your money. So with everyone overly bullish on the market why are we stepping back?  Well that’s the first sign!  For transparency we are still 70% exposed to the market.

Bitcoin Monthly:

The last time we had such an emotional swing in Bitcoin was the end of the 2018 cycle.  Three solid months of buying.  There were other periods where we had 5-6 bullish monthly candles, but only the later stages of 2017 did we ever see such a similar swing post 2015.

This was followed up by a corrective cycle, or consolidation. The question is, do we get a broader correction here?  Not a major correction, but a week or so of consolidation.

To be clear we do not expect a 50-60% pullback.  Though possible it is not probable.  History shows 30-40% corrective cycles are not uncommon.  All but one consolidation, during the 2015-2017 rally, corrected 30-40%.

The question here is, does history repeat or is there enough money flowing into the space to keep momentum going?

Markets do not stall because they have gone too high.  They stall because they run out of buyers and fresh money.   There could be enough buyer and new money flowing in to keep momentum bullish.  Adding to the bullish case, because the float is low, the price can continue higher.

No need to look any further than Beyond Meats (BYND) or Tilray (TLRY).  Where there is a lot of demand, and supply is limited, price moves higher.

We are not discounting a move higher but there are caution signs everywhere, and because of this we simply step aside.

Bitcoin Weekly:

Bitcoin is up nearly 350% from its low in December.  This is a substantial gain, from an investing & trading perspective, and most shorter term participants like to lock in gains.  Clearly the market is still bullish and there is no reason we can not continue higher.  However the market dynamics have changed.

This is no longer a speculative market, it has gone mainstream.  We saw this develop over last year when the likes of many endowment funds, and larger institutions started reporting.  These investors are more savvy and mature.  They do not fall into the hype on twitter and Facebook, or fall prey to Euphoria.  They are motivated by profit.

At some point, long and short term traders take profits, or at least some.  Markets start to stall when you have a combination of shorter term and longer term participants selling in certain areas.     Up nearly 350% off the low is a good area to take profits.  You think institutions are buyers or sellers here?

As Wyckoff points out, the distribution (consolidation) phase generally results in a trading range, where sellers continue to sell into any rally near the top of the range.  There are buyers and sellers at any point in a market. 

What we look for, from a Technical perspective, is evidence of buyer exhaustion or distribution.  We look for momentum to stall because there is no one left to buy and sellers exceed buyers.

Large operators do not normally dump into a market, they fade the market.   This is generally when we see a consolidation as they sell into late buyers.  Any buying pressure is kept from pushing higher with sell orders.

Order Flow:

We still have the rest of the day before the weekly closes and this will provide some additional insight as to the market momentum.  Are there enough buyers to keep momentum to the upside?  Or are there enough larger operators and others, in from better prices, fading into any strength?

Remember it does no good for a larger operator just to dump into the market when they want to sell (unless there is a purpose).   They want you to think they are buying, hence creating the buy orders they need to fade the rally. The only thing they can not hide is order flow.

Technical analysis is about identifying order flow through price action.  Nothing more, nothing less.  Whether you are looking at the RSI or MACD, the goal is to identify order flow in one direction or the other.  Where it becomes tricky is the initial pullback after a rally.

For now we have three valid impulse or motive waves to the upside on a broader time frame.  Though it is difficult to identify the end of a trend we always prepare for one.  We never want to be out completely, as the market does not care about my wave count or anyone else’s.

We do not discount another leg higher, which is why we do not sell 100% of our holdings.  Being out of the market completely can result in missing a broader move.  An event like TD Ameritrade or E-Trade can push the market vertical.  Yet we can also move lower and the market is in a position to do so.

Again there are cycle’s on short time frames and broader time frames.  We are looking for the mid-term cycle to end.  Technically Bitcoin can pullback to 3600, but we think this is a very low probability.  Reality is 8750-10,000 is likely the lower limit.  So would we need to see in order to buy?

Quite simply order flow and a trend continuation or reversal.  If the market pulls back and we see order flow absorb the selling pressure, we may take an entry.  A pullback to a support level and bullish reversal.  Bitcoin breakout and a continuation sets up.

This is what we are looking for, not trading the middle of the range.  Mid range buying is a coin flip at best.  

BTC Daily:

We mentioned in the long term time frame this is still a bullish market.  If you are a long term investor, as I tweeted out yesterday, Dollar Cost Averaging is a tried and true method of catching broader swings.

In order to beat the returns of DCA it is important to understand market cycles.

There are trending markets and ranging markets.  We can break these down into smaller time frames or fractal cycles, but for this example we use the broader daily chart.

Trending markets are motive waves, either bullish or bearish.  Ranging or consolidating markets happen when there is no progress and price fluctuates within a range.  A range bound market can last a few days or a few months.

Why is This Important:

During consolidation phases of the market, the direction of the next motive wave is unknown.  The goal of the Analysts is to base the potential outcome using evidence to support a probable outcome.

Obviously the most important indicator is the prevailing trend.  One thing to keep in mind.  There is no such thing as a current trend, only prevailing trends.

A trend is calculated from 2 points on a chart.  If the slope is up the market is bullish.  If the slope is down, bearish.  The slope determines the trend.  Since it would require a point in the future to calculate the current slope (trend) it is impossible to know the current trend.

This is purely from a theoretical standpoint, but at any point in the market, we only have historical data.  Once we know the next point, it becomes historical.

Range bound or markets in consolidation normally follow a trending market.  The recent daily engulfing candle is one piece of evidence that may signal we are entering a period of consolidation.

Bitcoin breaking 14,750 would confirm a bullish continuation.  Bitcoin taking out 9700 could imply a broader correction, or interim bearish trend.  Until we get data one way or the other, the slope or trend is unknown.

I do not want to discount sticking with the prevailing trend.  Markets that are trending higher, are likely to move higher.  Though for positioning and trading in certain areas of resistance, we wait.

Think of it like getting a new order with your business.  You interview two or three time, everything is going great, they have all but signed the contract.  Do you run out and buy a new car on that basis, or do you wait for the signed contract?  Trading and investing is no different.

Defensive Mode:

Though many do not like to play defense, the purpose is to protect you from a selloff.  During the peak at 20k, nobody thought we were going to 3200.  However if you played defense and went to a 20-30% cash position, you put yourself in a position of opportunity, not pain.

Sure there is the possibility we just move higher to 20k from here with only a brief pullback.  This is why we stay exposed to the market.  Yet the probability is low that this happens.  You definitely are not buying a new truck if you have a 20% chance of getting the contract!

The near engulfing candle was a signal that sellers stepped in to take profits and there were not enough buyers.  It also signals they we are likely seeing an area where sellers are starting to become more aggressive.  As we saw in May this type of swing resulted in a month of consolidation.

We do not trade or invest on hope, we trade and invest on reality.  The reality is we likely see a week or more of consolidation before we see the next motive cycle.  Maybe this is one of those 1 out of 10-20 times we don’t.

Until we see further evidence such as a breakout, considerable pullback or a more defined structure we wait!  Would you buy 1 Bitcoin here at 12k and run down to the dealer to buy a car for 24k, where the money was due at the end of July?  NO, and this is the type of mentality you have to have. 

BTCUSD Short

Bitcoin is up over 55% since shorts interest started rising.  Either these are shorts with strong hands, or those getting squeezed are being replaced quickly with additional short traders.

I am leaning towards this is shorts with strong hands or larger operators.  It takes a lot of liquidity to stick through a 20-30% move against you.

The risk here is they suck in more longs, while they add additional short positions and then dump into the market.  This makes their short trades profitable and allows them to place buy limit orders at much lower prices.

They create the buyers they need to short, then the sellers they need to buy.  We talked about this before in our article Bitcoin – The Big Raid – History Repeats.

At that time we mentioned how larger operators were likely in accumulation mode, and how they can manipulate the market by engineering trades.  This is nothing new as Richard Wyckoff wrote about engineering trades in his 1937 book.

A course of instruction in Stock Market Science and Technique.  Again history repeats though the players are different.

So though the potential for a short squeeze is still viable, we can not ignore the possibility for an engineered trade.  Being focused on a 4 hour chart and looking for triangles, and other insignificant patterns that form randomly, often has you overlooking what is going on around you.

Only time will tell, but ignoring a warning sign in the market, is no different than buying a car with out test driving it. Buyer Beware!

Defensive Player:

The best offense is a good defense.  Right now I am in defensive mode and am not willing to risk my hard earned capital because everyone is posting parabolic charts.  This feeds into the herd mentality and often leads to confirmation biases.

Confirmation Bias is simple.  You want the market to go up, so you look for people that are posting it is.  This leads to the herd mentality as often safety is thought to be found in numbers.  In the wild this may be true, but in the markets this leads to a crowded trade.

In the long term I am in this for the money, not to just play the game.  I do not have to be in every hand to be successful, my stack growing slowly is all I care about.  The most difficult part of being successful in trading and investing is knowing when to stand aside.

It is like everyone has forgotten the pain of 2018.

Greed and Pain:

The lure of easy money is all around us.  There is a group of traders that trade VIX instruments as the returns are simply to die for.  The risk is you can kill your account and more.  In six year buying and holding SVXY garnered a return of over 2900%.

These are crazy returns and it lures players in that do not understand the risks.  If you invested 10k when the fund opened, at the peak you were up to nearly 300k.

This draws in people looking to get rich quick.  From 2016 to 2018 it was attracting fish like someone dumped chum into the waters.  BUT THEN!  In one day the market gaped dropped nearly 90%.

Talk about some pain!  Anyone that invested or was stuck in a trade saw their money vaporize.  At least if you invested after 2012.

Some were not only liquidated, but ended up owing money to their broker, and that broker is not in the business of debt forgiveness.  This is real life and the risks of taking great risks.

Imagine selling 10 contracts out of the money for years thinking, this is easy money.  One week later you are filing for bankruptcy.

Now Bitcoin is not likely to capitulate to zero in a day, but the point here is there is to quit thinking you are going to get rich quick.  If you want to gamble your money away there are many that post trades every day.

Our goal is to keep our money working for us.  To increase our capital over time looking for quality trades.  Many new to trading have a misconception that you have to trade every day.  Because we have parameters we miss a lot of trades.  But it also keeps us out of a lot of bad ones.

This is what separates professionals from novices.  Knowing when to trade as opposed to thinking you missed out on a trade, forcing you to take low probability setups.

Summary:

Until the market meets our criteria we stand down.  Many do not like this because they want action.  There are many out there that provide a lot of action, but see how your account is after a year or so.  Those that claim huge ridiculous returns are no more than snake oil salesmen.

In trading if you are hitting between 20-30% a year CONSISTENTLY that is fabulous.   We all have our 40-50% years, hit a couple homeruns and a solid year of base hits and your there.  However higher risk strategies can lead to portfolio erosion over time.  It does no good to make 100% in a year, if you lost 60% the previous.  You are still in the red!

This is why we have rules and criteria for trading. If a trade does not meet our criteria we don’t take it.  I don’t care who is taking it, we have parameters.  Not that we don’t take aggressive trades, we do when the reward to risk meets our criteria.

There is a lot more to trading and investing than a triangle on a chart.  It is understanding how markets operate and moreover understanding the risks.  Until the market provides an opportunity we stand down.

My grand daddy told me this about playing poker.  “If you don’t see a sucker at the table, YOUR IT”.  Don’t fall for those that claim to have miraculous returns or have some secret trading strategy.

The market may just blow past 20k next week, but are you willing to bet your money on it?  I’ll take the opposite side of that bet! Not because it can’t happen, but because it likely won’t!

 

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