Investing is not a matter of luck. It is about going through the rigorous process of performing fundamental and technical analysis on the market before purchasing any new coin.
One of the best fundamental analytics tools for measuring the price movement of Bitcoin is the Stock-to-Flow Model. This article will introduce investors to S2F and also take a brief look at the differences between fundamental and technical analysis tools for cryptocurrencies.
What is Fundamental Analysis?
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It is important to understand what fundamental analysis is to develop a better perception of the Stock-to-Flow Model. Fundamental Analysis allows investors to take the macro factors that impact the price of a given investment product, such as stocks or cryptocurrencies.
Rather than focusing on the stock, the fundamental analytical tool takes into consideration the big-picture aspects such as the economic conditions, regulatory clarity, demand, supply, and utility of the given trading product.
Fundamental Analysis can also help investors to find out the direction of the current price movement, future price projection, or if the asset is under or overvalued.
Types of Fundamental Analysis
There are several hundred unique types of fundamental analytical tools available for different trading options such as stocks, cryptocurrencies, Forex, real estate, bonds, etc. However, fundamental analysis can be divided into the following basic classifications:
Quantitative Fundamental Analysis is indicated in the form of numbers, statistical calculations, figures, ratios, percentages, mathematical expressions, etc. Quantitative FA takes data related to balance sheet, income statements, cash flows, on-chain, and off-chain entries into consideration and process them through numerical processing.
Qualitative Fundamental Analysis does not deal with digit-based computations. Instead, it focuses on intangible factors such as quality, standards, goodwill, and perception of the asset under observation.
For example, qualitative analysis allows investors to closely examine factors like business model, utility, market competition, management accuracy, regulatory clarity, and sector development, among others.
Differences Between Fundamental and Technical Analysis
Cryptocurrency investors need to be able to differentiate between the fundamental and technical analysis tools and processes to become efficient traders. Here are some of the most prominent distinctions:
The Core of Analysis
At its core, Fundamental Analysis is to analyze the enterprise that has issued a particular asset class, such as the public limited company.
Fundamental Analysis can also measure the external factors that can impact the price of an underlying asset, such as the company performance, economic factors, and the utility of the asset.
On the other hand, the Technical Analysis is ideal for performing an in-depth and microscopic analysis of the asset based on its price movements and other market reactions. Technical analysis is about breaking down the smallest and biggest changes in an asset based on its history and individual performance.
The Fundamental Analysis results can be used for investing positions in most cases. Meanwhile, Technical Analysis is used for trading.
The time frame for Fundamental Analysis is usually long-term, and it warrants the possible state of asset years or months into the future. On the contrary, in most cases, Technical Analysis is performed to measure the short-term progress and projections for an asset class.
Fundamental Analysis often considers both future and past data for conclusions. In comparison, Technical Analysis depends wholly on the previous data that has been collected from an investment product.
Investors can find out the intrinsic value of an asset class using Fundamental Analysis, which could tell them whether the asset has the potential to gain or retain traction in the market. However, Technical Analysis is used to identify the perfect timing to enter into a new position or sell an existing position.
When using FA, investors tend to utilize all available information related to a given asset in any capacity. On the other side of the spectrum, Technical Analysis depends on price charts, histograms, and market trend analysis to make trade-related decisions.
Fundamental Analysis is going to take into consideration all the most important aspects of trading, such as economic relevance, regulatory impact, company progress, and sector trends. But, the Technical Analysis can depend on the price movements, trends, strengths, and psychological screening of the market.
Fundamental Analysis extracts data from economic reports, brokerages, industry reports, financial statements, management analytics, etc. Meanwhile, Technical Analysis sources data from charts, aggregators, on-chain options, exchange markets, etc.
Some of the most basic and core aspects that are used in Fundamental Analysis are ROA (Return on Assets) and ROE (Return on Equity). On the other hand, Technical Analysis is founded on the concepts like price-related data and Dow Theory.
Fundamental Analysis is more suitable for long-term positions, while Technical analysis is ideal for short-term trading strategies. However, in most cases, analysts use a combination of both for investing as well as trading.
The Indicators for Fundamental Analysis focus on reading expenses, revenues, liabilities, debt-equity ratio, ROA, ROE, and others. On the other hand, Technical Analysis indicators are all about MACD, EMA, RSI, charts, MAs, Ratios, Percentages, and similar options, among others.
What is the Stock-to-Flow Model?
Stock-to-Flow Model, or S2F, is a type of fundamental analytical tool for Bitcoin. It depends on the scarcity principle that deals with the supply and demand dynamics to measure the value of the flagship crypto. The working principle for S2F is that it takes into account the circulatory supply of Bitcoin, which is known as stock.
Another important factor that is required to perform S2F analysis is the annual income data for the given asset, which is called the flow. In some ways, S2F is an advanced form of Cash Flow analysis that also accounts for the total supply of a cryptocurrency.
It is more suitable for cryptocurrency analysis because cryptocurrencies are not issued by companies and cannot depend on traditional FA principles to measure the success ratio for a given digital asset.
How does the Stock-to-Flow Model Work?
It is important to understand the working of the Stock-to-Flow Model first and foremost. In essence, the investors require two main data inputs to perform this analysis. The first requirement is the total circularity supply of a given cryptocurrency and the second input is the total revenue per annum for the same asset.
By comparing these two data dynamics, the S2F model can predict the future direction of Bitcoin or any other cryptocurrency. The investors can easily find out the final results of the S2F reading by dividing both of the aforementioned data inputs with each other.
If an investor wishes to find out the S2F results for Bitcoin, they should take the current circulatory supply of Bitcoin, which could be 123K, and divide it with its annual flow, which is 456K. Investors can get these data inputs readymade from sites like CoinMarketCap.
They may also drive it from the on-chain data metrics by running a Bitcoin node, or they also have the option to manually work it out using formulas for Bitcoin annual Flow. Bitcoin Annual Flow is equal to the product of Bitcoin blocks mined per day and its block reward.
Now the investor has the per day new supply of Bitcoin, which they can multiply by 365. Investors should also keep in mind the Bitcoin Halving Event that takes place every four years if they are computing for multiple years.
Origin of Stock-to-Flow Model
The Stock-to-Flow Model has gained a considerable following and traction among cryptocurrency investors and Bitcoin maximalists. This model was created and introduced by a popular pseudonymous Bitcoin analyst called PlanB.
He is known for his technical and fundamental analytical insights on Bitcoin and interacts with his followers using Twitter and other social media accounts. He has mentioned that the circulatory supply and annual flow of Bitcoin are both known and transparent statistics related to Bitcoin.
He further argued that faking or manipulating these two important metrics is next to impossible on account of the decentralized nature of Bitcoin. Therefore, he designed the S2F model for Bitcoin analysis to ensure that every investor has access to it and to make the Bitcoin projections more accessible to a wide array of users.
It is not impossible to forge basic input requirements for the S2F model, namely, supply and flow, but as per PlanB, it is considerably difficult to manipulate. The simple yet effective nature of the S2F model is the main reason for its considerable gaining traction among the cryptocurrency community members and netizens.
Why Do Analysts Use the Stock-to-Flow Model for Bitcoin Analysis?
The main reason that the Stock-to-Flow Model has become so popular among investors is due to its Bitcoin ties. In comparison to other tradable options such as commodities and Forex, it is possible to find the accurate input requirements for Bitcoin.
For any type of Fundamental Analysis, it is almost always impossible for the investors to discredit the unknowns and discard the uncertainty from the variables such as economic influences, etc.
However, with Bitcoin, investors can get the near-perfect input to perform an S2F analysis, namely its total circulatory supply and annual flow.
With commodities like gold, investors are always unable to measure the precise circulatory and dormant supply of it. There are hidden mines of gold in the world, and the official statistics provided by governments may not always be accurate.
Furthermore, it is also next to impossible to account for the accurate annual flow of gold on account of the considerable variables involved. People can also take out gold to use as jewellery and other products.
With Bitcoin, it is not possible to take it to convert it into a daily usage item. Therefore, S2F Model grants greater analytical accuracy for the investors.
At the same time, the stock and flow data for Bitcoin and other cryptocurrencies are almost always readily available. Anyone with an internet connection can figure out these inputs and ensure their accuracy.
S2F is also considerably easy to perform, and it does not take a lot of time or technical expertise to carry out. On the other hand, using traditional FA methods such as Cash Flow Statements for cryptocurrencies is not befitting for them as they are decentralized at their core.
Therefore, it is better to replace Cash Flow with S2F for Bitcoin and other cryptocurrencies as they are distinct from shares issued by a public limited enterprise.
What can the Stock-to-Flow Model Tell About Bitcoin?
A good question to ask here is what the final result and output for the S2F model represent? Many investors have adopted S2F analysis for Bitcoin, and they swear by its accuracy. However, if an investor does not know what the final result of S2F is telling them, they cannot take advantage of this FA tool.
The Stock-to-Flow Model is used for measuring and predicting the price of Bitcoin. Here are some of the most important aspects regarding Bitcoin price movements that S2F can reveal:
It is used for measuring the optimistic or pessimistic outlook for the long-term performance of Bitcoin.
It is used to measure the price projections for Bitcoin while taking into consideration the supply changes that occur on account of Halving.
It indicates that Bitcoin price elasticity is low. Price Elasticity concerning supply represents the potential of an increase in the total supply of Bitcoin in direct proportion to an increase in price.
S2F is considered one of the indicators that can account for the latest changes in the total circulatory supply of Bitcoin without creating too many difficulties for investors. Most FA tools do not possess the ability to gauge the changes in the supply of Bitcoin. For the most part, the supply of Bitcoin remains constant, with the exception of halving.
The S2F Model is great for tracking all the major and minor changes in the price action for Bitcoin under the pretext of token economics.
Stock-to-Flow Model Predictions for Bitcoin
Many investors may ask how reliable the S2F Model for Bitcoin analysis is. The track record for the S2F indicates that it has issued accurate predictions for Bitcoin thus far. The latest output for the Stock-to-Flow Model has predicted that Bitcoin’s current price should be $100K per unit.
However, the real-life price of Bitcoin is currently three times lower than this option. Furthermore, as per the analytical predictions of S2F shared by PlanB, Bitcoin prices should hover as high as $110K per unit at some point in 2023.
Additionally, the future price predictions for Bitcoin as per Stock-to-Flow are that it is going to transition into a $200K per unit market once it has successfully crossed the $100K threshold.
Investors need to take the price projections issued by the S2F model with a grain of salt. In most cases, investors depend on a multitude of technical and fundamental analytical strategies before they delve into any new trade venture.
Is Stock-to-Flow Model Accurate About Bitcoin?
When it comes to popular Fundamental or Technical Analytical tools such as Fibonacci Retracements, RSI, ROE, and PE Ratio, it is important to examine their accuracy. In the current day and age, many social media influencers could preach using the most basic technical and fundamental analytical tools on their social media channels.
However, it takes a lot of time, effort, experience, and technical skills to decrease the percentage of error in issuing any price prediction for a given trading item. This is the main reason that big financial firms spend billions of dollars on research and advanced analytical tools.
However, despite all their efforts and market analysis, they can never issue any prediction with 100% accuracy because financial markets are always subject to astronomic variables. It is important to keep in mind that S2F predictions for Bitcoin have been relatively accurate.
However, in the last 18 months, the Bitcoin price movements in real life have deviated wildly away from S2F projections. Overall, Bitcoin has adhered to long-term S2F projections but has deviated from its short-term outlook.
Some people exclaim that the S2F is accurate, but the market has been affected by unprecedented events such as Ukraine War, COVID, and the recession, etc. The S2F was also inaccurate for 2013 and 2015.
Limitations of the Stock-to-Flow Model
Here are some of the most noteworthy criticisms that the Stock-to-Flow Model has received from other analysts:
It depends too heavily on Bitcoin’s circulatory supply. Over time, Bitcoin prices are going to become less dependent on the supply on account of a limited number of coins.
The S2F model only projects that Bitcoin prices are either going to rise or remain intact. It does not project any negative price movements that happen in real life.
The S2F Model is not always accurate, and it may keep projecting positive Bitcoin signals irrespective of all the negative market developments, such as the downfall of market sentiment on account of the FTX collapse etc.
S2F does not account for any external or internal market variables that can impact the prices of Bitcoin.
It is not easy to find the perfect FA tool for Bitcoin price predictions. As mentioned before, even the best investors in the world keep a margin of error in mind despite their advanced skill set and experience.
Stock-to-Flow Model is a simple and considerably effective way to predict the price changes for Bitcoin and other cryptocurrencies. At the same time, the investors should diversify their technical and fundamental analysis efforts to reduce the margin of error as much as possible.