Weakening Bitcoin-ETH Correlation Suggests Changing Dynamics in the Crypto Market

Bitcoin (BTC) and ether (ETH), the top two cryptocurrencies in terms of market value, have exhibited a strong positive correlation for much of 2022. However, this relationship has significantly weakened in recent times, indicating an impending regime change in the crypto market.

According to data from crypto provider Kaiko, the 30-day rolling correlation between the price changes of bitcoin and ETH currently stands at 77%, the lowest since 2021 and notably weaker than the 96% correlation observed two months ago.

While ETH has previously experienced brief periods of decoupling from bitcoin, the current weakening of correlation may persist, suggesting that bitcoin, as the largest and most liquid digital asset, may no longer serve as the anchor for ETH and the broader market. Pulkit Goyal, Vice President of trading at OrBit Markets, an institutional liquidity provider of options and structured derivatives in digital assets, believes that this could be the start of a long-term regime change.

Goyal points out that as Ethereum transitions from a proof-of-work (PoW) to a proof-of-stake (PoS) consensus mechanism, the underlying economics of supply and demand for the two tokens will continue to diverge. He suggests that bitcoin will solidify its position as “digital gold” or a blue-chip stock, while ETH will be viewed as a growth stock or an emerging market.

Kaiko’s weekly newsletter also supports this view, stating that “Both BTC and ETH seem increasingly driven by divergent idiosyncratic factors.”

The transition of Ethereum from PoW to PoS took place in September 2022. This energy-efficient shift, along with the recent Shapella upgrade, has de-risked the passive investing strategy of staking coins in return for rewards. The burning of ETH by the network is closely tied to network usage levels.

Bitcoin, on the other hand, remains a macro asset that reacts to inflation figures, changes in fiat liquidity, and retains its appeal as a hedge against traditional finance. Bitcoin’s supply expansion rate is halved every four years through a process called mining reward halving, with the fourth halving expected next year.

While bitcoin is currently influenced by macroeconomic factors and institutional investment, Ethereum, though affected, appears to be less correlated with macroeconomic conditions, at least for now. This differentiation in dynamics might position Ethereum as a distinct asset class within the same sphere as bitcoin.

The decoupling between bitcoin and ETH could present new trading opportunities for capturing relative value between the two tokens without involving fiat currencies. The demand for options in the BTC/ETH cross has already increased in the over-the-counter (OTC) space, according to Goyal.

Overall, this weakening correlation between BTC and ETH signifies a shifting landscape in the crypto market. Traders and investors should pay close attention to the evolving dynamics between these two influential cryptocurrencies, as they may offer new avenues for investment and trading strategies.