09 February 2022

Cryptocurrencies

Should you be shorting Bitcoin in 2022?

If there’s one rule retail traders should always follow when trading Bitcoin, or any other market, is simply to trade with the trend. Yet, trading with the trend and being able to identify the trend are two different things, especially when trading a highly volatile asset such as cryptocurrency pairs. 

Regardless of the high volatility in cryptocurrencies, however, Bitcoin and the crypto industry have managed to force a new perspective on the global financial system and the future of money. And being short on Bitcoin would seem out of touch especially with the current inflationary backdrop – at least in the long term.

So, while no one can accurately predict cryptocurrency prices, analysts expect Bitcoin and other cryptos to continue their upward trajectory. 

From infamy to mainstream adoption

Bitcoin skeptics and opponents have criticized crypto since its inception, and its association with dark web dealings didn’t help either. There’s also the issue of extreme volatility. After all, investing hard earned money in such a volatile asset doesn’t make sense – no matter how risk tolerant an investor you may be. 

But, despite these issues, Bitcoin has triggered both a financial and cultural revolution. Headlines are buzzing about cryptocurrencies, DeFi (Decentralized Finance) and NFTs, while online communities dedicated to investing and personal finance are booming. There’s never been so much interest in trading cryptocurrencies from the public at large.

Cryptocurrencies have also managed to gain a lot of legitimacy as companies that are household names have introduced some form of cryptocurrency payment method on their platforms. 

Adding to its legitimacy, the governments of El Salvador and India have taken steps to regulate and tax cryptocurrency transactions. Also, while China has recently banned trading and mining cryptocurrencies across the board, its central bank launched their own version of a cryptocurrency - the digital renminbi - which has become the first national digital currency. 

Trading Bitcoin with CFDs

Despite this growing legitimacy, the infamous volatility of cryptocurrencies continues. Owning Bitcoin means you take the hit when the market takes a downturn. But choosing to speculate on Bitcoin’s movements with CFDs instead affords the opportunity to trade even when prices are falling. 

CFDs (contract for difference) are derivative assets that track the movements of the underlying instrument. They are available for a wide range of instruments including cryptocurrencies, as well as stocks, commodities and fiat currencies.

Trading a CFD means you can benefit from price movements in the underlying asset without owning it. This allows traders to profit even when the market is on a downtrend by going short, or selling their CFD. 

One of the greatest advantages of trading CFDs, however, is that they are traded on margin. Traders can take advantage of margin to open positions several times larger than their initial investment and enjoy greater returns. Of course, trading on margin also magnifies exposure to risk, and this is why a risk management strategy should be a priority for CFD traders.

The total exposure compared to the margin requirement for each CFD is also referred to as the leverage ratio. For example, trading Bitcoin with a leverage ratio of 1:5 allows traders to buy or sell $5,000 worth of Bitcoin with only $1,000 in their account.

Exness clients have been enjoying a 1:200 leverage across a wide range of cryptocurrency pairs and recently the broker has also increased leverage for Bitcoin and Ethereum to 1:400. 

Should traders short Bitcoin or start preparing for another rally?

As far as the market outlook is concerned, it’s true that Bitcoin is highly volatile. But taking a step back and looking at the big picture, the volatility becomes mostly a short-term issue. And as any other market, Bitcoin enjoys cycles of appreciation and depreciation. 

For example, looking at the yearly time frame, one can see that prices are still trading in the same range as they did in the previous year. At the time of writing, BTCUSD is hovering between $44,000 and $41,000, while on February 16 - exactly one year ago - it was still changing hands near $45,000.  

This doesn’t mean that history will repeat itself, but the case can be made that volatility becomes an issue on shorter timeframes, similarly to any other asset.    

Unlike fiat currencies, Bitcoin is finite – there will never be more than 21 million Bitcoin in existence – and 90% of Bitcoin’s maximum total supply has already been mined. While the currencies of major economies and most importantly the US dollar are struggling with record-high inflation rates, Bitcoin will never exceed this hard limit of 21 million. Therefore, the laws of supply and demand would call for prices to rise. 

Simply put, as long as Bitcoin is in high demand, its price on the global stage will rise due to its limited availability. Of course, whether Bitcoin will remain in demand is largely unknown, but cryptocurrencies have been used as a store of value since their inception and will likely continue to do so - against the advice of financial analysts. 

That being said, it’s important to note that volatility will likely continue to dominate in cryptocurrency markets for the foreseeable future. JPMorgan analysts argue that Bitcoin is already overpriced and place its fair value at $38,000.  

Also, the higher interest rates proposed by the Federal Reserve in the US will likely strengthen the US dollar, which in turn will pressure both commodity markets and cryptocurrencies.

Final thoughts

While shorting Bitcoin may be a viable strategy in the short-term, the big picture points to an uptrend as more money flows into the market from retail and institutional investors. 

Trading Bitcoin and other cryptocurrencies is a challenge for retail traders that focus on short-term trading strategies. These tend to be high-risk, high-reward and one of the reasons why trading crypto has become so popular.

Risk management rules should be the basis of any strategy with consistent results over the long-term and this is especially true for Bitcoin trading because of the extreme volatility and exposure to downside risk.  

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