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12 October 2018
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Weekly Research: October 12th, 2018

TABLE OF CONTENTS




Lessons from the Dotcom Era – How First Movers in Blockchain Are Preparing for the Tech Revolution

Cryptocurrencies and blockchain were once a niche interest, protected and propagated by a hardcore legion of early adopters. Now, times have moved on. Blockchain technology has captured the attention of the world. One report estimates that the number of blockchain wallet users is increasing by more than 1.5 million each month. Spurred on by the hype over the price of Bitcoin, many investors are entering the market in the hope of making above-average returns from digital currencies.

It’s not just the surge of investors that are new. Thousands of ICOs have been held, most over the last couple of years alone. Comparisons have been drawn between the dotcom bubble and the current blockchain hype. If those comparisons are fair, then a select few of the blockchain startups of today could be the Google or Amazon of tomorrow. By the same logic, most of them are likely to fail. As investors, our goal is to find a way to determine which companies are the ones least likely to fail, as these are the best bet for the largest, and longest-term returns.

What Can Today’s Blockchain Investors Learn from the Dotcom Era?

        In such a crowded ICO market, it can be a challenge to try to predict future successes or failures. The dotcom bubble became a bubble for this exact reason. Money poured into the market based on nothing more than speculation. The same money was subsequently lost when thousands of new projects failed to deliver.

        However, the dotcom era had a tremendous impact on the traditional stock market as well as the emergence of new tech companies. The changes brought about by the internet killed off many long-standing public companies with business models that had previously been successful. Other companies managed to survive, and even thrive, by adapting and moving with the times.

There are clear examples of the casualties of that era that can be contrasted with the survival stories of their direct competitors. For example, Borders Books chose to ignore the growing trend of ebooks and liquidated, while Barnes & Noble embraced the move to digital and is still in business today. Similarly, the success of Nikon as a photography brand has continued uninterrupted for decades as the company adapted its strategy and products in line with the move to digital photography. Kodak didn’t and is still struggling to recover from a 2012 bankruptcy filing.

So we can see a theme: pre-existing companies that survived the dotcom era are the ones that managed to keep pace with technological developments. They learned to adapt their business models to the changing times.

Where Blockchain Is Making a Difference

The successes and failures outlined above give us a lens through which we can examine the current markets. Considering which industries are ripe for shaking up with the ongoing blockchain revolution, we can take a look at which existing companies are positioning themselves for success in the transition to new technologies.

Sectors that depend on intermediaries and the establishment of trust are the ones that will reap the most benefits from blockchain. Therefore, the companies in these sectors that are starting to embrace blockchain are the ones that stand the best chance of weathering the current tech storm. Finance is an obvious example, with Bitcoin as the first use case for blockchain, but there are other markets worth watching.

Here, we provide some illustrated examples of sectors that are ripe for disruption by blockchain, together with examples of key industry players who are already striving to keep up with the technological shifts. In some cases, savvy blockchain startups have also seen the potential in these sectors and are looking to capitalize with their own solutions.

Logistics and Shipping

        Blockchain as a means of tracking asset movements between parties creates a compelling use case in the global shipping and logistics industry, which is estimated to grow to $15.5 trillion by 2023. The industry is currently highly complex, with many handoffs between different players in a single supply chain. This creates inefficiencies, with many parties tracking the same assets. McKinsey reports that in some cases, more than half of the total supply chain costs of a company are eaten up by inefficient processes. These costs directly impact the bottom line, subsequently reducing the potential for healthy shareholder returns.

First movers into blockchain are now emerging in the logistics sector. IBM and global shipping giant Maersk announced in early August that their jointly developed blockchain solution for worldwide logistics management, Tradelens, is now live. Ninety-four organizations are on board through its early adopter program.

The system is used to securely share shipping documentation and track movements of containers throughout the supply chain. So far, Tradelens has captured more than 150 million movements through ports, shipping lines, and customs authorities. It has been proven to reduce shipping times by up to 40 percent.

Blockchain startups have also spotted the high potential for disruption in the global supply chain and logistics industries. Currently, one of the biggest in terms of market cap is VeChain (VET), which combines blockchain with Internet of Things (IoT) technology to provide a scalable and flexible supply chain solution. Waltonchain (WTC) came into the game slightly later, but have developed a similar IoT solution. Both are worth considering for anyone considering investing in the future of blockchain-based logistics management.

Morpheus Network (MRPH) is currently one of the smaller players in this sector. However, it is worthy of a mention, given that it has been busy acquiring some impressive credentials for itself. The company has a former CEO of DHL on its advisory board, and is a member of the Blockchain in Transport Alliance, a consortium of companies that counts FedEx and UPS among its members.

Manufacturing

In April 2018, a Southwest Airlines passenger was fatally injured after one of its engines failed. A fan blade had broken away, and fragments had smashed a window on the aircraft. Reuters later reported that not all airlines record the history of all engine parts and that blockchain was a potential solution for track and trace capabilities within the aircraft manufacturing process. Using blockchain in this way means that safety checks after an accident could be performed more quickly.

The same report stated that engine maker, Rolls Royce, has been working with blockchain developers to investigate the possibilities of blockchain in its supply chain process.

Additive manufacturing (3D printing) is another area where blockchain is adding value. Additive manufacturing is performed in multiple stages with handoffs between different parties, with each stage requiring verification so that the next stage can be commenced. Blockchain can therefore be used to create an immutable, trusted chain of custody for each stage of the additive manufacturing process.

General Electric (GE) has recently filed a patent for the use of blockchain in the verification of 3D parts made by its subsidiary, GE Additive. In this way, companies procuring parts manufactured by GE Additive will be able to verify their provenance on the blockchain, providing quality assurance and protection against counterfeits. Moog Aircraft Group is undertaking a similar project for the aircraft parts it supplies.

Given that Deloitte believes that blockchain offers “unique potential” to the process of additive manufacturing, blockchain tech startups have been slow to jump on it. If the Deloitte view is correct, then any blockchain projects starting out in this area are worth watching. Italian-based 3D Token (3DT) is one notable first-mover, and the company has gained €2.5m ($2.9m) in European funding according to its website.

Kabuni is a similar project, which has also recently signed a Memorandum of Understanding with the Canadian Securities Exchange to offer its token as a listed security. Both 3D Token and Kabuni aim to use their blockchain solutions to streamline the complex, multi-stage process of additive manufacturing at scale.

Legal

Smart contracts are still in their infancy. However, the more forward-thinking people in the notoriously traditional legal profession are already getting excited about the potential applications. The automatic execution of legal agreements could reduce the incidence of lawsuits.

In addition to this, law is heavily dependent on sharing documentation which must also be trusted and tamperproof. A blockchain-based system provides law firms with a trustworthy way of sharing case files and other legal documents. AI is another technology that offers potential in legal applications, as AI machines could replace mundane work such as sifting through historical cases to find relevant information.

So far, law firms have been slow to adopt blockchain functionality. However, K&L Gates is taking the first steps, by implementing its own internal permissioned blockchain to investigate the use of smart contracts for its clients. This year’s Global Legal Hackathon reported a heavy focus on the application of blockchain, which shows promising signs that others may follow in the steps of K&L Gates.

On the other hand, the blockchain community has been enthusiastic in its assertions that blockchain-based smart contracts could ultimately do away with lawyers entirely. While this may not prove to be the case, there are blockchain initiatives in the legal space. IntegraLedger is a private blockchain and the first project of the Global Legal Blockchain Consortium. One of their creations is smart documents: electronic contract documents that allow the subsequent transactions on which they are based to be logged securely and immutably on the blockchain.

Much like the financial sector, legal services are subject to strict requirements for confidentiality. Most public blockchains operate based on pseudonymity, so private blockchains are likely to be the future direction of blockchain-based contracting law. Nevertheless, there are token investment opportunities in other areas of law. Digital rights management is one notable example, as the public key encryption technology used by blockchains allows copyright holders the opportunity to manage the use of their digital works. Microsoft and EY have previously announced their own blockchain platform for copyright protection.

For the token investor, SingularDTV (SNGLS) is currently one of the most established players, using blockchain to manage video licensing and distribution. It has been around since 2016, and also allows its users to use blockchain for crowdfunding their own video projects. Similarly to Netflix, SingularDTV also creates its own original content.

Concensum (CEN, formerly Copytrack, traded under the CPY ticker) was launched only this year and with a broader user scope than SingularDTV. The company recently moved operations from its Berlin-based sibling Copytrack to Singapore-based Concensum. This resulted in a token swap, causing an initial drop in value during mid-September. However, given the heavy fluctuations in the overall crypto markets this year, the change was hardly significant. Along with Bitcoin, the value of CEN has shown increases over the last few weeks.

Insurance

The insurance sector suffers from fraudulent claims. In Europe alone, this is thought to account for up to 10 percent of all claims. Add to this an overabundance of paperwork and a lengthy process for genuine claimants to recover their losses, and it is clear that insurance is a sector ripe for disruption by blockchain. Smart contracts have the potential to provide automatic payouts in the event of particular trigger events, which can be automated further by converging with IoT technology. If your TV breaks, IoT technology sends a message to inform your insurers it is broken. This triggers a smart contract which automatically reimburses your claim for a new one.

This is a simple example, and insurance is notoriously complex. Nevertheless, Allianz announced at the end of 2017 that it had successfully piloted a blockchain solution for managing the self-insurance program of one of its global clients. The company partnered with Citi, Ernst & Young, and digital agency Ginetta to implement a prototype for one of its longtime customers. The system successfully managed the policy renewals, premium payments, and claims processes, decreasing processing times across all three areas.

iXLedger (IXT) was started in 2017 and offers insurance to blockchain companies. This helps to offset the risks of investing in ICOs, which lends legitimacy and an element of safety to would-be investors. The company also operates an insurance marketplace, aimed at reducing the time between handoffs, which creates inefficiencies in the insurance sector.

Self-insurance is a prime candidate for decentralization. Larger companies may use self-insurance for risks such as employee accidents while on business travel. Decentralization would allow smaller companies to do the same, by clubbing together in decentralized autonomous organizations (DAOs). Indeed, this is one of the use cases for DAOStack (GEN), a blockchain project aimed at creating a governance model for DAOs. DAOStack offers further ambitious and innovative use cases for DAO governance beyond just self-insurance and its creator Matan Field is a respected member of the blockchain community, so it could make an interesting investment opportunity despite that it is a relatively new project with a current low market cap.  

Etherisc is another blockchain-based insurance initiative aimed at creating collective insurance groups for risks such as hurricane damage or flight delays. The company is a very new entrant to the market and has only recently concluded its TGE.

Concluding Thoughts       

These sectors are by no means the only ones that are moving into blockchain and broader distributed ledger technologies. However, they do represent some industries where first movers are already clearing the path, proving the business case for the adoption of blockchain. The development of smaller startups only underlines the long-term potential of blockchain in these markets.

Of course, none of this is investment advice, and nobody can predict the future. However, the dotcom era showed that those industry players that were able to keep pace with the age of the internet were the only ones that could survive. Similarly, tech firms like Amazon and Google, that thrived beyond the initial dotcom buzz, found their place first in sectors that were ripe for disruption and then developed into the giants they have become today.

Applying these lessons from the dotcom era to our financial portfolio offers the opportunity to invest not only in exciting new blockchain projects with high risks and potentially high returns. Traditional companies that are now innovating with emerging technologies to solve real-world problems can also offer a healthy balance to an investment portfolio.


Learning to Love Proof of Stake

Crypto networks like Bitcoin, Ethereum, Ripple, NEO, etc. are fundamentally different from any type of organization that has come before them.

They’re not institutions, since there’s no one in control. But they’re also not simple open source projects.

You can fork a blockchain, but it’s not as easy as forking Ubuntu or OpenOffice.

The main difference comes from a unique combination of cryptography, economics, and social consensus, three factors that make blockchain and distributed ledger technology so exciting and interesting. It’s a fundamentally different way of thinking about organizing people and systems.

One common misconception is that these cryptoeconomic systems are monolithic. In the media and even everyday conversation we hear people refer to the “blockchain” as if it’s a singular thing rather than a conceptual group of many protocols.

The truth is blockchains come in many flavors: ASIC-based proof of work (e.g. Bitcoin); ASIC-resistant, GPU-driven PoW (e.g. Monero); social network-driven consensus (e.g. Ripple); Byzantine Tolerant PoS schemes (e.g. NEO); and stateful consensus-by-bet PoS (e.g. Ethereum Casper).

Each of these flavors has its unique benefits and guiding philosophies that drive its user base. For a long time, Nakamoto’s maximalist idea of proof of work has prevailed.

In that philosophy, there is one true blockchain state. All resources (read: terrawatt hours of electricity) should go toward maintaining, protecting, and propagating that state.

In the face of mounting concerns about the scalability, waste, and centralization of proof of work, however, many blockchain experts are beginning to question that philosophy.

Why Replace Proof of Work?

Technology journalists from media outlets around the world love to write about the massive amount of electricity Bitcoin mining uses. The fact of the matter is that proof of work systems at scale are incredibly expensive to maintain since they rely on network size to maintain security. With only one winner at every block height, the electricity of all other miners in the world essentially goes to waste in the name of securing the proof of work network. Considering a large portion of Bitcoin mining happens in parts of the world where old coal and oil power plants supply electricity, the environmental impact is non-trivial.

However, there are other, more fundamental challenges with proof of work systems. There’s growing concern over the increasing centralization of mining capacity. 70% of mining on the Bitcoin network, for instance, now happens in China. Additionally, 70% of mining rigs come from one company: Bitmain. As such, Chinese miners and the executives at Bitmain hold a high amount of influence over the Bitcoin network. Similar stories of centralization are playing out for other proof of work blockchains.

The fundamental problem here is contained within the proof of work consensus algorithm. The only way to make a proof of work system more secure is to increase the hardware and electricity that goes into securing it. This doesn’t scale well because there’s no inherent advantage for those defending the protocol. There’s no way to punish an attacker and make it harder for them to attack again. We can’t burn an attacker’s hardware or inflict punishment on bad actors. Proof of work is reward-only–it’s all carrot and no stick. This makes proof of work algorithms easier to write, but it has the drawback that the protocol can’t defend itself in the event of an attack.

A replacement for proof of work should grant a defender’s advantage, likely in the form of a punishment that makes it harder for attackers to attack again. Proof of stake fundamentally alters that structure, and that’s what makes it so powerful. Let’s see how.

All Consensus is Betting

Vitalik Buterin made an interesting observation when he concluded that all forms of consensus are just various types of bets. Taken together the bets form a prediction market that consolidates around a single truth that the network can agree on.

In the case of proof of work, miners place bets in the form of hardware and electricity purchases. They are betting that the rewards from mining will be greater than the cost of electricity and hardware. Since proof of work uses outside resources (fiat money and electricity) as collateral on its bets, the miners have a strong real-world incentive to act honestly.

Proof of stake consensus takes this idea of betting and moves everything within the system so there are no longer outside resources at stake. Instead, participants in proof of stake put their own currency up as part of the bet. This creates a virtual prediction market that establishes consensus internally without the need for outside resources. It’s vastly more efficient than proof of work because participating in this virtual betting market only requires minimal computing power. A laptop, and possibly one day even a phone, could run a staking node in a PoS system.

Running a virtual betting market makes proof of stake more varied and nuanced than proof of work. In proof of work systems, there is only one type of bet: electricity + hardware < block reward. In some proof of stake schemes, however, participants can validate strongly, giving heavier weight to blocks they feel are legitimate. This leads to exponentially stronger finality for some blocks that receive strong support from validators.

But proof of stake doesn’t rely on reward alone. It also penalizes participants that make bad or double bets. Systems for various blockchains differ, but before participating as a validator, you must put up a deposit. You’ll lose this deposit if you make a bad action, incentivizing validators to remain honest and only vote for one true chain.

Proof of stake introduces a lot of complexity into writing the consensus algorithm. Projects have to decide how heavily to reward validators for participating in the staking. They also have to make decisions about how large of a deposit to require and when to take away that deposit.

Choosing the Validators

One of the major challenges is how to choose validators and how many validators there should be to confirm each block. The system only works if you randomize the selection of validators and make sure a validator can’t participate in consecutive rounds of consensus to build a malicious or fake chain.

Alternatively, you make the validator pool so large that a single validator (or cartel of bad actors) doesn’t have enough influence to impose bad blocks. However, participants who stake a higher amount should have a greater chance of getting chosen to participate and receive rewards in order for staking to be worth it.

Perhaps more complex is the question of how long a validator must wait between submitting a deposit and being eligible to participate in the validation process. What about withdrawals? Proof of stake systems requires that validators wait for a countdown period of several weeks or months before they can withdraw their deposit and any rewards. This is to give the protocol, and other validators, time to confirm the transactions the validator participated in and prove they’re legitimate.

Objective vs. Subjective Consensus

Over long periods of time, humans are actually very good at establishing consensus socially. History generally takes us a long time to agree upon. However, once history has been recorded human society isn’t likely to forget that the Roman Empire existed or that World War 2 happened. It’s simply too well documented and too many people know about it for consensus to be overwritten. However, this consensus is subjective, and not everyone knows the same facts about the Romans or the Nazis.

We’re all in different states of knowledge, even though we generally agree on the overall state. It’s also slow and error-prone. If I don’t know something, it could take me a long time to find the answer, and I would easily believe you if you offered me false information about the topic.

This type of social subjective consensus has powered currency systems before. Rai stones are currency used in Pacific islands. They are 8000 lbs, so a transaction simply involves recording the transfer of value in oral history. You can imagine the challenges in this system, but it works! With a little technology, social subjective consensus looks like Ripple or Stellar where you determine the nodes in your network to trust.

Nevertheless, greater finality and objectivity seems like a better way to establish consensus with technology. This is the value of proof of work. There’s an objective truth to the state of the Bitcoin network, for instance, and every node on the network knows that objective truth. However, that truth comes at a high resource cost.

Weak Subjectivity in PoS

Proof of stake lies at the middle ground of this objective-subjective spectrum. A node that’s new to a proof of stake system could quickly learn the rules of the protocol and get the history of the blockchain along with the ways that past validators have voted.

Most proof of stake schemes also limit votes and revisions to only a few blocks deep into the chain. So, there’s a block just a few block heights back that is known to be objectively valid from which a new node can gain the state and then subjectively come to conclusions about recently added blocks.

Restricting how far back the chain can be reverted is a key security feature for proof of stake applications, because it limits the viability of long-term attacks where attackers build an alternative chain over a long time with which they attempt to replace the old chain. Limiting revision depth is one way to limit the subjectivity of PoS systems.

Another is with a hybrid PoW/PoS approach. If PoW miners verify 1 out of every 100 blocks, there remains a marketplace for mining capacity and outside verification. You can get the objectivity of proof of work regularly while still increasing efficiency 100-fold.

PoS in Action

Most blockchains currently implement proof of work. However, several of the top projects in the world are using or planning to use proof of stake. Let’s take a look at the current state of proof of stake in crypto:

1. QTUM

The largest project running a proof of stake system is QTUM. It’s a smart contract and dapps platform that uses Bitcoin’s source code while implementing PoS. In QTUM, your chances of being chosen as a validator are based on the amount of QTUM you’ve staked compared to everyone else in the staking pool. Once chosen, you’ll receive a reward for validating transactions over the course of a delay period (as described above).

2. NEO

NEO uses Delegated Byzantine Fault Tolerance consensus that’s different from pure proof of stake in some ways. However, many principles of selecting validators from the community at large are the same. Most types of BFT consensus are simplified, repackaged versions of the core proof of stake concepts.

In this case, the validators in dBFT must all agree and reach finality, and the small quorum of delegated validators increases throughput potential albeit while sacrificing decentralization.

3. Ethereum Casper

Ethereum has spent the past several years working on a PoS solution called Casper. This solution would also include state sharding for smart contracts so that multiple transactions and contracts can get approved in parallel. This is the next level in proof of stake, one that can support smart contracts while scaling linearly along with network size.

4. NOT Dash

Many people like to say that Dash uses proof of stake. Do not believe them. Dash masternodes do put up 1000 DASH as collateral to become a masternode. However, that collateral can’t be taken away for making bad decisions and masternodes do not write transactions to the blockchain. All interaction with Dash’s blockchain is still via PoW mining.

Further Research Needed

Proof of stake is by no means settled. It’s still an experimental realm with a lot of potential but also a lot of complexity to explore. Some areas for future research include:

  • Simulating and testing results to show that proof of stake incentivizes and ultimately tends toward convergence. In some edge cases, experts worry that PoS could result in fragmented chains, with each faction believing their chain is the true chain.
  • Who and how do we write the scripts that help validate and bet on transaction validity? What’s the optimal strategy for verifying and betting on a block without making a mistake?
  • Need increased efficiency so that many validators can participate at the same time. Most current schemes randomly select a small quorum of validators from the larger community. If we can increase efficiency, more people can stake and vote, leading to stronger consensus.

Conclusion

We’ve reached the limits of what proof of work can handle in terms of scalability and avoiding centralization. These challenges will only continue to manifest in proof of work networks.

Proof of stake scales better, engages the whole community, and provides powerful security incentives not possible in proof of work. Solving the complex challenges of writing proof of stake algorithms are not trivial, but projects are working on implementing them in various forms.

Expect proof of stake (and its variants like BFT) to become increasingly prominent, especially if it deploys successfully on Ethereum in the coming year.


Gemini Secures Hot Wallet Insurance

In what may be an industry first, Gemini has now obtained insurance for the digital assets held in the company’s hot wallets. The insurance is arranged Aon, a global professional services firm specializing in risk, retirement, and health solutions. Now, Gemini maintains insurance for its users’ cryptocurrency as well as their U.S. dollar funds through traditional FDIC guarantees.

Let’s break down the impact of this:

Digital assets are now insurable items. Although you may have already been able to purchase insurance for your cryptocurrency through sketchier means, this is the first example of a big-time company providing this coverage. This opens up a new market, and other insurance companies are likely to follow suit.

Centralized exchanges mitigate a major threat. Proponents of decentralized exchanges (DEXs) commonly argue that funds on a centralized exchange are more at risk due to the threat of hacks. Well, with digital asset insurance, that weakness no longer exists. Even if your coins are somehow stolen, you’ll receive what’s due to you through the insured exchange. This guarantee gives centralized exchanges some hope in competing with the up-and-coming decentralized counterparts.

Gemini is setting a new bar. Custodial services now have no excuse to remain uninsured. Just as every reputable bank is FDIC insured, every reputable exchange should have some form of digital asset insurance. If an exchange can’t find a party to provide insurance, they need to improve their operations until they can.

Final Thoughts: Positive Vibes

It’s hard to see this as anything but good news. A sticking point for people who haven’t taken the plunge into cryptocurrency yet is the looming threat of hackers. With additional exchanges getting insurance (which they all should), new investors gain peace of mind for their entrance into the industry. And, this should go without saying, but this lowered barrier to entry should bring up the market as a whole.

Let’s put on our macro lenses for a moment. The majority of investors that purchased any digital asset in 2017 were rightfully seen as renegades whether they were average retail investors or institutional investors. This group represents a small, teeny-tiny sliver of total investment capital. These investors bought virtually any digital asset ranging from Bitcoin to Bitconnect with a very limited understanding of the coin itself, let alone an awareness of how safe their investment is from hackers. Exchanges and wallets were getting hacked left and right, and yet these investors hung on for dear life. 

Now, let’s envision a future where at least the risk of getting all your money stolen due to an exchange security fault is completely mitigated. That’s where we can start seeing a true early majority of investors start moving into cryptocurrency as a more mature asset class. Additionally, since Gemini is pioneering this, we may see most of this capital move into the digital assets that it offers on its exchange: Bitcoin, Ethereum, and Zcash. 


Bitcoin’s First Sidechain, Liquid, Is Live

This week, Blockstream, one of the largest contributors to the Bitcoin codebase, launched Liquid, Bitcoin’s first sidechain. The project originated in 2015 and has been live in beta for the past year or so. Now, the sidechain is open to all of Blockstream’s partners.

Liquid provides exchanges with a near-instant way to move bitcoin around with having to deal with the bloat and delay on the main chain.

Initial users for the use and management of Liquid include 23 bitcoin companies such as exchanges, brokers, and other institutions. The list includes some of the largest bitcoin exchanges such as OKCoin, Xapo, Bitfinex, BitMEX, and more, which account for roughly 50 percent to 60 percent of bitcoin’s trading volume.

Why this is relevant to you:

One of the most cumbersome components of Bitcoin that was unearthed in 2017 when transactions became incredibly expensive and speed decreased. At a time when Bitcoin was getting some major spotlight and attracting a ton of interested users, this just wasn’t a good look.

Then, we started seeing a bunch of forks and other projects popping out of the woodwork to address Bitcoin’s inefficiencies in an attempt to capture some of the digital cash market share. “We’re like Bitcoin, but cheaper!” “We’re like Bitcoin, but faster!” “We’re like Bitcoin, but faster, cheaper, and we’ll do your taxes for you!”

And boom, alt-coin mania.

Meanwhile, Blockstream, as well as Lightning Labs, have been relentlessly pushing the needle on making Bitcoin more user-friendly and scalable. Liquid is a big step in that direction.

But what happens when Bitcoin solves its scalability issues? What happens to the Litecoins and Bitcoin Cashes of the world?

We’ve seen alt-coin winter in 2018 where the majority of altcoins are down 60% to 90% of their ATH value in 2017, but happens when many of them no longer have a value proposition that exceeds that of Bitcoin?

Speculation aside, these coins would be useless without a first-mover advantage, a throne Bitcoin is unlikely to give up. This Liquid news may turn even the more adamant altcoin fans into Bitcoin maximalists.

Pay very close attention to how exchanges and other institutions start using Liquid, because if it (or any other Bitcoin scaleability technology) works, it carries a death sentence for a wide variety of altcoins.


Key Crypto Trend/Momentum Analysis for Thursday, October 11, 2018

The big picture technical backdrop for BCHUSD, ETHUSD and LTCUSD changed substantially over the past 24 hours, with all three coins surging southward out of narrow-range Bollinger Band squeeze setups that had printed on their respective six-hour charts. The precipitating event for these significant declines was, of course, the shock sell-off in the broad US equity markets, combined with a negative comment regarding cryptocurrencies from the International Monetary Fund (IMF) on Wednesday, October 10, 2018.

The additional sell-off witnessed at today’s open in the US stock markets also hammered the entire cryptocurrency space. Let’s take a closer look at our three key crypto markets now.

Two-day momentum/trend/key technicals for BCHUSD

The previous two trading sessions (Oct. 9-10, 2018) witnessed Bitcoin Cash’s rapid transition from a modestly bullish cycle phasing to a decidedly bearish phase, thus setting up the new wide-range, heavy volume decline in this market.

Six-day momentum/trend/key technicals for BCHUSD

The previous six days worth of price action were also part of the transition from a low-volatility phase to a higher-volatility phase. Again, the twin negative effects of the global stock rout and IMF dissing of the crypto markets was the primary catalyst for this sudden negative shift in sentiment.

RSI (14) is way down in the 30s again, and, with the Chaikin Money Flow (CMF (89) still below zero even as all three key cycle oscillators decline, traders would do well to stay in cash until all three oscillators bottom near a key support level: particularly the 407.00 area or slightly above. My take on the price action in BCHUSD is that this is simply another purging of the weak shorts, and weak longs, in this market, before it regains footing and begins a bullish trend reversal worth trading.

Figure 1.) BCHUSD daily: With a rapidly shifting cycle phase, traders need to watch the dashed blue support line at 425.00. A daily close below that line implies more downside is possible. Created with NinjaTrader 8Figure 2.) BCHUSD 6-hour and daily: Bitcoin Cash dropped like a rock as the US markets cratered and the IMF blasted crypto on October 10, 2018. The key daily support levels are now 425 and 407. Created with MotiveWave Ultimate.

Key takeaways for BCHUSD:

  • With a rapid, violent shift in cycle phasing from bullish to bearish, traders need to patiently wait for clear signs of the next cycle low before going long
  • Expect any rally to be temporarily capped near 510.00 to 525.00
  • The long-term trend is now neutral to moderately bearish, but a daily close below 407.00 puts if firmly back in bearish mode.
  • The smart money does not appear to be selling out at the moment

Two-day momentum/trend/key technicals for ETHUSD

Just as with Bitcoin and Litecoin, the previous two trading sessions (Oct. 9-10, 2018) witnessed Ethereum’s rapid transition from a modestly bullish cycle phasing to a very bearish phase, thus setting up the new wide-range, heavy volume decline in this market. Of the three coins, Ethereum’s chart in the most bearish, all else being equal.

Six-day momentum/trend/key technicals for ETHUSD

The previous six days worth of price action in Ethereum were also part of the transition from a low-volatility phase to a higher-volatility phase. Again, the twin negative effects of the global stock rout and the IMF’s negative comments on the crypto markets was the primary catalyst for this sudden negative shift in sentiment.

RSI (14) is down in the mid-30s again, and with the Chaikin Money Flow (CMF (89) still below zero even as all three key cycle oscillators decline, traders need to patiently wait out this sell-off until all three of the cycle oscillators bottom (next daily chart cycle low due at the end of October), and preferably between the key levels of 167.00 and 197.00. I don’t think this current sell-off will take ETHUSD (nor BCHUSD and LTCUSD) to new lows, given that the long-term money flow (see the bottom of Figure 4. for a visual) still confirms that the smart money is still betting on big, tradable gains ahead. Perhaps this is just part of the painful process of the big money interests weeding out the remaining bears, even as they jerk the market around to shake out the weak long retail traders. We’ll see soon enough if this is actually the case, or not.

Figure 3.) ETHUSD daily: Ethereum actually dipped beneath the key dashed cycle support line today; a daily close below it will confirm the shift from a bullish to bearish cycle phase. Created with NinjaTrader 8.Figure 4.) ETHUSD, 6-hour and daily:. The six-hour chart (left) reveals a lack of buying pressure (demand) during the decline. However, note how strong the 89-period money flow is on the 21-hour chart. The smart money still believe in this market’s potential for gains. Created with MotiveWave Ultimate.

Key takeaways for ETHUSD:

  • A close below 197.00 sets the stage for further declines
  • Cycle oscillators are bearish; traders need to wait for all three to bottom before considering a long position again.
  • The 21-hour/daily chart Chaikin Money Flow suggests the smart money are patiently going to ride this decline out
  • The long-term trend is now neutral to moderately bearish

Technical view for LTCUSD

Virtually all of the previous comments regarding Bitcoin Cash and Ethereum’s respective technical dynamics also apply to Litecoin. A nasty, very rapid shift in cycle phasing from bullish to bearish has caused all three cycle oscillators to roll over, even an the long-term money flow (CMF (89)) and Relative Strength Index (RSI (14))  remains mired in bearish territory.

The dashed blue line is the price level that will confirm a shift to a bearish cycle phase, if a daily close below 50.50 occurs within the next several trading sessions. Should that bearish event occur soon, the near-term trend is officially bearish and lower prices become a very real probability. However, just as with ETHUSD, LTCUSD’s long-term money flow, although mildly bearish in and of itself, is still in a defacto uptrend from the September 2018 lows (see Figure 6. for a view), and could be seen as evidence that the big money are not going to be cashing out of Litecoin anytime soon. As with the other two big coins we’ve examined, it’s possible that this recent drop is simply part of the final washout of weak shorts and weak longs, just before a bullish trend reversal finally takes hold.

Nevertheless, traders should keep the 47.19 support level on their radar just in case, as a close below the September 2018 low could unleash some more serious downside. Take it one day at a time, always realizing that the use of a proven, measurable, mechanical trading system is almost always the best route to consistent trading profits over the long haul.

Figure 5.) LTCUSD daily: Traders need to watch for a daily close below 50.50, as that sets up the possibility of several more days of decline. Resistance near 57 to 60 may temporarily cap any relief rallies. Created with NinjaTrader 8.

Figure 6.) LTCUSD, 6-hour and  daily: The steadily rising trend of the CMF (89) histogram on the 21-hour chart (right side) suggests that the smart money are still in this coin for the long haul. Created with MotiveWave Ultimate.

Key takeaways for LTCUSD:

  • A daily close below 50.50 sets up the potential for more downside
  • All three cycle oscillators pointing lower
  • Resistance exists between 57.00 and 60.00
  • Strong support down near the September 2018 low at 47.19
  • The long-term trend is now neutral to moderately bearish
  • The smart money does not appear to be selling out

 

Quick-Take: IOTAUSD – possibly a shakeout of weak retail shorts. See comments on the following chart:  

Figure 7.) IOTAUSD, 21 hours. When a market drops hard from a consolidation zone (blue rectangle) and then suddenly reverses back into the box, it may mean the smart money initiated a selloff for the purposes of luring in weak retail traders on the short side only to shake them out of their positions before taking the market higher. Created with MotiveWave Ultimate

Summing up this week’s look at Bitcoin Cash, Ethereum and Litecoin:

  • All three coins have rapidly transitioned from bullish to bearish cycle phasing.
  • This rapid shift in sentiment is largely due to negative reaction to the IMF’s comments on the crypto markets (Wednesday, Oct. 10th) and to trader anxiety over the US stock market debacle, also on October 10, 2018.
  • All three coins will need time to repair the technical damage caused by the above named events. Each remains in a bearish RSI (14) posture, and each is also trading below all three key swing trading ema’s (8-, 20, 50-periods).
  • Traders should wait until all three cycle oscillators have bottomed before considering now long positions; long-term investors may want to begin adding small positions on further declines into the upcoming cycle low, due at the end of October 2018.
  • The Chaikin Money Flow histogram (CMF (89)) on each coin’s respective 21-hour chart suggests that the ‘smart money’ (the big-money traders who initiate every single market move in all financial markets, including cryptocurrencies) are not too concerned about the last several days of price action.
  • Remember, this is the cryptocurrency market, and NOTHING is certain, especially in this relatively unregulated, manipulation-prone corner of the financial markets. Always use sensible position sizing and risk control regardless of how bullish or bearish a particular chart pattern or trade signal setup appears to be.
  • For what it’s worth, the declines since yesterday morning in the crypto markets are relatively benign when compared to the utter carnage hitting the S&P 500 index and Nasdaq 100 index – right now. The Dow 30 stocks are down 1,400 points in just two days, and there is likely more blood to be shed in the US/worldwide equity markets in the days and weeks ahead.
  • Might it be that cryptocurrencies, at least the largest-cap ones, are being viewed as a relatively safer haven than the equities markets? Could be, and it will be very interesting to see how cryptos fare, now that the widely-followed S&P 500 index has closed below its 200-day moving average – and on heavy volume – for the first time in nearly three years. For all anyone knows, cryptocurrencies may see an influx of investor funds from those fleeing the US stock market, thus putting an additional floor of financial support under the entire crypto universe.

Trading Education 101:

How to identify a low-volatility market on the verge of a breakout

Traders tend to lose money when they attempt to trade a dead, low-volatility market. Those using oscillators like RSI and stochastics to time entries often find that there is little or no meaningful follow through in price, and they are frequently and quickly stopped out for a loss during such sideways market phases.

So what’s the solution to this common problem?

Simple! Don’t trade low volatility markets at all; wait them out until a true breakout trade signal appears and then trade it with the appropriate position size. Here’s how to identify and ultimately avoid trading a low-volatile, sideways market using several common technical indicators found in virtually all trading/charting platforms.

Plot each of these indicators in your trading workspace. The Bollinger Bands need to be overlaid on the chart, but the others should be plotted in sub-windows. All are relatively equal in importance, and it’s at times when all come into strong agreement that the probabilities for a strong break from a low volatility to a higher volatility market phase are the greatest.

  1. Bollinger Bands: Use the typical settings of two standard deviations and a 20-period simple moving average.
  1. Average Directional Index or ADX: Use the standard 14-period setting.
  1. Average True Range or ATR: Use 14 periods for the first one and 50 periods for the second.
  1. Bollinger Bandwidth: Use a 50-period lookback on this indicator.

Okay, now what?

Your job now is to use your eyes, examining the price action on your chart and the relative levels (high or low) of each of the four indicators now plotted beneath your chart. Ask yourself these questions:

  1. Does this market have a consistent history of strong trending moves, or not? If it doesn’t, stop right here, as there is little use in waiting for a breakout move in a market that doesn’t typically make powerful, sustained swings in either direction.
  2. If the market does have a consistent history of trending behavior (as does our example coin, BTCUSD), are the Bollinger Bands extremely narrow, both on a near-term and long-term basis?
  3. If so, now ask if the ADX is near 10 (or even lower); such low levels are not sustainable in a market with a healthy history of consistent trends.
  4. Go even further. Ask yourself if the ATR (14) and ATR (50) readings are both down near-term and longer-term lows.
  5. Finally, ask yourself if the 50-period Bollinger Bandwidth is also mired down at extreme near-term and longer-term lows.

If the Bollinger Bands are extremely narrow, with all five of the above indicators at/near extreme low readings as just described, you are very likely to see a strong breakout from the Bollinger Bands in the near future. The longer a market wallows in such a sideways funk, the more powerful the resulting breakout will normally be. As long as, the market has a verified historical record of consistent, strong, sustained trending moves. Bitcoin (BTCUSD) certainly qualifies on this point of qualification, as do several other large-cap coins.

Figure 8.) BTCUSD, daily. Traders would do well to sidestep low volatility markets, as they offer little opportunity for swing traders. Waiting to enter on a confirmed breakout is usually a better strategy.

A recent example

Above, you can see the exact same indicator setup on a daily chart of BTCUSD as of Wednesday afternoon, October 10, 2018. I have no idea which way the market will break, but if you look at the volume profile histogram on the right side of the chart, you’ll see that BTCUSD is trading right near the key volume point-of-control (VPOC) price level. Note that there is little trading volume directly above/below that peak of the VPOC, meaning that in whichever direction this coin breaks, the follow-through could be very strong, as there is little selling OR buying pressure ready to kick in on either side of the VPOC. Get ready for some potentially wild price action in BTCUSD – not to mention many other key coins – in the weeks ahead!

Disclaimer:

The material presented in this article is to be construed as educational in nature only and in no way does it constitute specific investing and/or trading advice for any specific individual or entity. Speculation in the financial markets involves substantial risk and therefore only risk capital should be used when trading or investing. Always consult your licensed financial advisor before deploying risk capital in the financial markets.


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LAST WEEK’S UPDATE