On May 21, 2020, an event will take place that could change the value of bitcoin forever. However, even as awareness of the media’s attention around bitcoin grows, it’s an event that few people talk about or understand – despite the fact that it happened twice before.
I’m talking about the next Bitcoin halving. Today I’m going to explain what this is, why it could make sense for your portfolio and the crypto market in general and what you can do to prepare.
What is Bitcoin halving?
Unlike fiat currencies, which can be printed by central banks at will, the supply of bitcoin is algorithmically limited. Only 21 million bitcoins will exist. This, by definition, makes it a deflationary asset, as opposed to an inflationary one.
Every 10 minutes, a Bitcoin transaction block is solved with miners and added to the bitcoin blokchain. This is complicated and expensive work, requires a lot of power and specialized hardware. So why would anyone do that in the first place? Because the algorithm rewards new bitcoin miners, which are created and added to the circulating supply every 10 minutes. This new distribution of BTC is known as the block reward.
When bitcoin first appeared, the block reward was 50 BTC. This means that every 10 minutes someone, somewhere, will receive 50 bitcoins sent to their wallet. This was back to a time when BTC was worth every penny and you could mine it with just a laptop.
So does this mean that the money is essentially falling from the sky on the people running huge warehouse-scale mining rigs? Yes, but they don’t earn anywhere near much BTC for their efforts. Currently, the block reward is just 12.5 BTC.
What happened? The block reward has been cut in half – twice. This is a feature programmed into bitcoin, and happens every four years (210,000 blocks). Once that number is crossed, the block reward will be cut in half. This process is predetermined and will continue until the last bitcoins are mined around 2140.
This process is known as a halving, and it can have a long-term impact on the price of BTC. It was set to happen again about 1 year from now.
How does the halving affect the price of BTC?
The halving tends to have a long-term positive effect on the price of bitcoin. Why is this happening? There are many theories, but one common one stems from simple supply and demand: If fewer bitcoins are created, the new scarcity increases automatically making them more valuable. But this doesn’t happen immediately.
To explain more nuances of why the dichotomy correlates with the eventual price change, one needs to examine the miner’s role. On average, 4,380 blocks are mined per month and added to the bitcoin blockchain. According to this rule, the block reward is 12.5 BTC with an example price of around $ 5,000. Adding up the numbers shows 4,380 x 12.5 x 5,000 = $ 273,750,000 per month. This is the amount that miners are earning each month in total revenue.
After the next halving, only half of the BTC will be generated per day (4,380 x 6.25 x 5,000 = 136,875,000 per month). When this happens, one of two things will happen: Miners will either give up, or they will refuse to sell bitcoins created for under $ 10,000 (also known as HODLing).
So how has this played out in the past? History shows us that it ends up being a mixture of the two. A small number of miners will actually give up, while the majority will instead choose to continue mining and holding.
The first halving occurred in November 2012, when 1 BTC was priced around $ 11 USD. The following year, prices began to rise sharply, reaching a new all-time high above $ 1,100 in 2013. The price then fell to the $ 220- $ 240 level, where it will remain for several years to come.
The next halving occurred on July 9, 2016. BTC was in the $ 580-700 range for several months before slowly rising towards the end of the year. This time, some industry insiders predict that history can repeat itself. Investors remember what happened in 2017?
Similar to Bitcoin, the Litecoin halving will also happen in August this year, and is now 300% up from 5 months ago, with no signs of cooling off.
What to expect with the next Bitcoin halving
Using CoinDesk data, I analyzed the bitcoin price throughout April and found that major volatile events seem to occur around 12-18 months before and after each halving. For the first time ever, BTC went up from around $ 11 to around $ 1,100 and dropped to $ 220. For the second time, BTC has risen from around $ 230 to around $ 20,000 and down to around $ 4,000.
So what’s going to happen for the next halving? I am not a business in making predictions, but history can tend to repeat itself.
It is important to note that with the halving, there are different variables at work. With the first, this was the first time a halving had happened, and no one had a real idea of what to expect. For the second time, the rise of Ethereum and ICO services is a new factor that has a significant impact on the market.
The biggest changes in the crypto ecosystem this time will be a higher public awareness of bitcoin and interest among institutional investors. If financial institutions start taking large positions, it could affect bitcoin in ways investors have never seen before.
Regardless, the main point of today’s history lesson is: There is a clear correlation between bitcoin reward halving and subsequent price action. These supply side changes happen every 4 years, and keeping that in mind can help build a better picture of what influences the price of bitcoin at different times.