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Bitcoin Q4 2023 Overview

The fourth quarter was another tremendous period for the Bitcoin network. With increasing network activity, a resurgence in inscriptions driven fees, and continued march towards institutional adoption of the asset, this report intends to serve as an overview of all that you need to know.

Network Activity

Outside of the obvious ETF developments, the story of the last 12 months for the Bitcoin network has been the rise of inscriptions. Inscriptions enable users to embed text, images, and other media into the Bitcoin blockchain, attached to the smallest units of Bitcoin called "Satoshis" (1/100 millionth of a Bitcoin). These Inscriptions are limited by the block space for each Satoshi, with a ceiling of around 4 MB. Inscriptions have caused an immense debate within the Bitcoin community, with some viewing inscriptions as a bug, while others see them as an innovative way to utilize the network that wasn't before possible until the Taproot soft fork in late 2021.

There are now more than 53 million inscriptions on the Bitcoin network.

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What are the trade-offs of inscriptions? On one hand this has caused an increase in the total block size of Bitcoin blocks, a reflection of the amount of data stored within each block on the Bitcoin blockchain. This larger data load can increase friction for node operators, which some view as a concern to the decentralized nature of node distribution that is so crucial to the Bitcoin network's success.

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In addition, inscriptions activity has caused a large influx in transaction fees on the network due to heightened demand to utilize block space, recently jumping to their highest single day reading ever at over $23 million. While some may view this as a negative, at Reflexivity we view this as a positive thing. We believe that the Bitcoin base chain is a settlement network similar to Fedwire, not a payment network. Increased transaction costs are a natural bi-product of growing network usage over time, and with increased revenue incentives for miners to secure the network, actually bolsters the network's security. Over time we expect layer two scaling solutions to be developed such as the lightning network, which will absorb most of the day-day payment activity that will then be settled on the base layer. With a recent report from River on the lightning network showing a large rise in funding for Bitcoin lightning network start-ups paired with the rise in transaction fees, we suspect that there will be continued development around Bitcoin L2s over the coming years.

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Bitcoin is currently the #1 blockchain/application by transaction fees over the last 24 hours, 7 days, and 30 days. At over $340 million in fees generated over the last 30 days, this annualizes out to over $4 billion a year in fees paid out to miners. Should this activity persist over the coming few months, we believe that there may be an opportunity to be a step ahead of wall street and utilize this information asymmetry to a public miner investor's advantage before this newfound revenue translates to quarterly reported earnings.

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As mentioned above, this increase in fees creates a strong incentive for miners to continue plugging in new machines to compete for this revenue (Miner Revenue = Fees + Block Subsidy). This, alongside decreased global energy prices and more efficient mining rigs that are able to produce more hash rate, may partially explain the continued rise of Bitcoin's hash rate.

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While transaction fees have risen, Glasnode's entity adjusted transfer volume is still far off from 2017/2021 bull run highs, with the 7-day moving average currently hovering around $5 billion.

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This quarter Bitcoin addresses with a non-zero balance accelerated 50 million, showing continued network usage and adoption throughout 2023 overall and Q4.

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Market Structure

This quarter Bitcoin surpassed Berkshire Hathaway and reclaimed its spot in the total 10 largest global assets, reflecting its strong 155% 2023 performance. Bitcoin now sits at $850 billion market capitalization.

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It goes without needing to be mentioned, but in the fourth quarter we saw continued developments around the highly anticipated Bitcoin spot ETF filings, including Blackrock and Bitwise seeding their products, and numerous tradfi behemoths being named as authorized participants for the filings such as JPMorgan, Jane Street, and Cantor Fitzgerald. With the decision deadline for the SEC coming up on January 10th of next week, all we can do now is wait. Should the ETF be approved, it is uncertain what the initial flows will look like into the product. However, we suspect that that the combination of declining career risk, incentive for RIAs to allocate clients' capital, and unlocking of passive flows, approval would unlock billions of dollars of inflows into the asset class over the coming years.

This ETF anticipation has translated to the continued rise of Bitcoin futures open interest on the CME. Now resting at all time highs of over $5.3 billion with an annualized basis of roughly 13%, traditional finance players operating on the CME have clearly felt strongly about the approval of some of these investment vehicles. It is yet to be seen how much of this open interest will be unwound around a potential approval.

In addition, another barometer for ETF approval expectations is the GBTC premium. As a closed end trust, GBTC fluctuates with a premium/discount to net asset value. Throughout 2023 this climbed from -48% to roughly -6% at the time of writing.

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Other notable data points include the percentage of Bitcoin's supply that has not been moved in at least a year. Now over 70%, this reflects strong belief in the asset class from Bitcoin's holder base. Should ETF flows surprise to the upside over the coming 6-12 months, BTC will need to trade higher than levels that it trades today to incentivize this holder base to let go of its inventory.

Looking at crypto-native valuation methodologies, although BTC is no longer in deep undervalued territory reached in late 2022 and this is the longest that Bitcoin has gone without a 25% correction since 2011 (we suspect there will be several, as with all historical major Bitcoin bull runs), the asset remains far from the drastically "overvalued" readings set during other major rallies.

The methodology we have shown below is MVRV ratio. This compares the market capitalization of Bitcoin, which is set by the marginal buyer/seller, to its realized capitalization, which is based on the price that each coin last moved. Comparing the two in the ratio shown below shows where the current marginal trading price of BTC is relative to the network's aggregated cost basis.

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Last but not least, the countdown to the halving continues, with roughly 100 days (based on current block times) until Bitcoin's supply issuance cuts in half once again, meaning the asset's stock to flow ratio (not to be confused with the stock to flow price model) will surpass that of gold.

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We hope that you enjoyed this quarter's Bitcoin overview. With a potential ETF on the horizon and institutionalization of the asset class, the halving coming up in 3 months, and rise of inscriptions, there is plenty to be excited about around the Bitcoin network. Bright times are ahead.

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Disclaimer: This research report is exactly that — a research report. It is not intended to serve as financial advice, nor should you blindly assume that any of the information is accurate without confirming through your own research. Bitcoin, cryptocurrencies, and other digital assets are incredibly risky and nothing in this report should be considered an endorsement to buy or sell any asset. Never invest more than you are willing to lose and understand the risk that you are taking. Do your own research. All information in this report is for educational purposes only and should not be the basis for any investment decisions that you make.