Bitcoin: FOMO, Patterns, and Where do we go from here?

Even for those not involved, it was hard to miss the dramatic reversal in bitcoin on Friday, ostensibly on news that Chinese president Xi Jinping expressed support for the development of blockchain technology. (China banned bitcoin and cryptocurrency exchanges in 2017).

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Sentiment had also gotten bearish on a fairly rapid fall from 10k to 7.5k, and bitcoin trading volume on the ten top exchanges had reportedly fallen from $4 billion per day a few months ago to under $200 million a day last week. And the chart pattern looked like bitcoin was poised to fall further, continuing the “echo bubble” dynamic.

On Friday the price jumped from 7500 to 7600 at about 6:45EST and then a few hours later spiked sharply from 7700 to 8500 in less than 10 minutes. Friday evening (again, EST) prices jumped one more time from 8500 up to 10400, before trading in a range between 8800 and 10000 since. It’s roughly 3pm EST right now and bitcoin is quoted at 9660 on Coinbase.

What do the charts now say to do, based on this price action?

If you are fundamentally bullish bitcoin, I get that the FOMO here is irresistible. I don’t know how a bitcoin maximalist could remain on the sidelines or not buy more. But that doesn’t mean that you should.

Trading based on chart patterns doesn’t work like that. We use patterns precisely because they help us protect ourselves from emotions.  After a large selloff or downtrend there is typically a lot of technical damage that has to be repaired before you can get a safe entry point for a longer-term position. One large pop doesn’t do it.

There are two specific things to pay attention to: building a base and overhead resistance

An excellent example of “building a base” after a large decline is what we saw from December 2018 until March 2019. In fact, it was this base, with the requisite pattern of progressively higher lows and a quieting down/tightening up of the price action is what turned me technically bullish in late March.

I can’t get bullish on the chart until I see some kind base built and a sense that the technical/psychological damage has been repaired—even if I were fundamentally bullish the underlying asset.

The other problem is overhead resistance. From the charts above you can see that the support in the 9500-10000 area that was built from June through September has now become overhead resistance. The old saying is support that breaks becomes resistance, and resistance that breaks becomes support. This is a good example of that.

Because no base has been built and we are almost exactly at significant overhead resistance right now, the chart pattern is not giving you a buy signal. Is this a guarantee the price of bitcoin won’t continue going straight up from here? Of course not. It just tells you that the current chart pattern doesn’t put the odds in your favor. And playing the chart patterns has worked out unusually well in this asset for as long as I have been tracking it. This admittedly gets tougher and nosier now that volumes are considerably lighter and the bitcoin market is easier to push around in the near term, but typically this is noise that should influence your position sizing but not whether bitcoin ends up being a success or not.

If, however, you are a fundamental bitcoin bull and the FOMO is absolutely killing you (this happens to all of us), and you need to be involved, just be ultraconservative in your sizing. The general rules are 1) the closer you are to a natural stop on the charts, the larger the position you can afford to risk, and 2) the lower the volatility of the asset the larger position you can afford to risk. Given the magnitude of the pop, there are no natural stops for longs nearby right now, and volatility & gap risk are likely to remain quite high.

If the chart is saying bitcoin is not a good risk/reward buy here, does that mean it is a short? The basic answer there is also no.

The pattern of stair stepping down, consolidating, then breaking again to lower lows has ended. If you are bearish bitcoin and looking for an entry point to get structurally short, the odds aren’t great here either. The only thing working in your favor is that the overhead resistance offers a degree of protection.

If you are looking to trade it, you can also short price spikes up into resistance, but here too the sizing has to be more cautious because of the pick up in volatility, and you have to set a pretty tight stop and/or babysit the position closely.

Good luck.