Why Does the Stock-to-Flow Model Work for Bitcoin?

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The stock-to-flow model is one of the popular models in the bitcoin community, particularly because of the reason that it predicts the price of bitcoin at above $100k before December 2021.

However, in his latest interview with Anthony Pomplaino, PlanB shared a good reason for that as he talked about why exactly the S2F model works.

The model that is used to quantify scarcity basically works because the scarcer something is, the more valuable it should be.

The model is defined as a relationship between the production of an asset and its current stock available. Bitcoin’s S2F ratio is currently 22 near silver but come halving, the supply shock would see it doubling to 50, reaching closer to gold’s 62 which is the highest S2F.

The Network Effect

An institutional investor, PlanB said that another reason why this model works is because of the network effects.

“There is a network effect of developers that more and more developers start working on Bitcoin and more and more merchants start buying and selling stuff with Bitcoin and the number of investors keeps increasing and then there are all sorts of network effects in market,” he said.

In the past eleven years’, the bitcoin network has slowly built up as in the beginning there weren’t any on and off-ramps. But now we have cryptocurrency exchanges in every country and there are derivatives, futures, and options markets as well which he said are “very important.”

“So, it could be that the stock to flow is quantifying the underlying network effects in Bitcoin,” said PlanB.

The popular quant analyst who in a short time gained a huge audience, close to 80k followers on Twitter, has an economics degree in quantitative finance and a law degree in financial markets.

A potential reason why S2F model works is also HODLers who believe in bitcoin and stick to it through the crashes and pumps, no matter what. “The act of holding is very important and might also be something that is quantified by S2F.”

QE is another reason

As we recently reported, the Federal Reserve has announced unlimited QE to combat the effect of COVID-19 on the market and economy. And QE according to PlanB is yet another reason.

Central banks around the world are printing trillions of dollars, just like they did during the financial crisis in 2008 when Bitcoin was created.

Now that central banks have started to print trillions in fiat currency, this money the Dutchman said is used for buying bonds and mortgages.

“It could be that a little bit of that money is somehow finding its way into Bitcoin and that Bitcoin measures the increase in money supply, if you will, of all those fiat currencies,” he said.

Cointegration is getting stronger

Plan who is in his mid-40s also shared how he first discovered Bitcoin in 2013 and got hooked after reading the white paper but didn’t buy any BTC until 2015. This purchase he said was a private investment and not as an institutional investor.

Given that Bitcoin has a Sharpie ratio bigger than one, it is a lucrative investment as its return percentage is bigger than the risk percentage.

As for the cointegration of BTC price and S2F it is only “getting stronger over time.”

And it would be interesting how it does as we go through what BTC hasn’t experienced before, a financial crisis.

“We haven’t had a crisis to test it on but I think that it might be a bit similar to the internet. The internet was built as a communications protocol that kept working under enormous machine nuclear wars,” PlanB said.

And according to him, Bitcoin is something like that — very decentralized as there are hundreds and thousands of nodes around the world. “I think Bitcoin is made for a situation like this,” he said.

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