The most controversial price prediction model of Bitcoin is the stock-to-flow model. The foundational ingredient of this model is the inflation rate of Bitcoin, which is continuously falling and supposed to correlate with higher and higher prices. What is the Bitcoin stock to flow model and why is there so much controversy surrounding this price model?
The Bitcoin stock-to-flow model (affectionately known as s2f model) was created in 2019 by pseudonymous Dutch financial analyst PlanB. It gained a lot of attention in the 2020/2021 bullrun. It seemed to have predicted the Bitcoin price reasonably well. When the bear market unfolded in earnest, the model didn’t look so good anymore: price has been deviating a lot from the projected price.
What is the Stock-to-Flow Ratio?
A crucial property of money that has historically been conclusive in determining which money got adopted widely, is scarcity. This term can be numerically pinpointed as the so-called stock-to-flow ratio. In the dynamics of supply and demand that determine the value of everything, it is the supply-side variable.
Stock-to-flow is the ratio of a good’s accumulated stock to the amount produced or taken out of the ground each year. The higher the stock-to-flow (inventory divided by production), the greater the scarcity and the harder it is for producers to influence price. A high stock-to-flow acts as a kind of insurance of value retention.
Gold, to name an important example, has a high stock-to-flow ratio. Roughly about 1.5 percent of the above-ground stock (in vaults and jewelry) is mined each year. That equates to a stock-to-flow of about 65 (100 divided by 1.5). That means that stock-to-flow is the opposite of inflation: gold has a high stock-to-flow and therefore a low inflation rate of 1.5 percent.
The Bitcoin Stock-to-Flow Ratio Over Time
When Satoshi started mining in 2009, Bitcoin’s stock-to-flow ratio was zero: there were no BTC in existence when the first block reward was 50 BTC. Currently, there have been more than 19 million Bitcoin mined and the issuance has dropped to 6.25 Bitcoin per block. This comes down to a stock-to-flow ratio of around 58, or a yearly inflation rate of around 1.7%. These numbers are constantly changing though, as the stock keeps growing relative to the number of BTC left to be mined. The stock-to-flow ratio especially bumps up after every Bitcoin halving, roughly every four years. The halvings are visible as vertical dotted lines in the graph.
What is the Stock-to-Flow Cross Asset model
A year after his 2019 article, PlanB came with an iteration of his model: the Stock-to-flow Cross Asset model. He removed the variable of time and plotted the price of Bitcoin and other scarce assets against their stock-to-flow ratio. The scale is a log scale, and the different small colored dots are the different stock-to-flow ratios of Bitcoin for all the months it has been in existence.
From the above graph, the linear regression is hard to miss. From the article:
“Fitting a linear regression to the data confirms what can be seen with the naked eye: a statistically significant relationship between SF and market value. […] The likelihood that the relationship between SF and market value is caused by chance is close to zero.”
As can be seen from the cleaned-up plot below (no colors, no gold…
Erik started as a freelance writer around the time Satoshi was brewing on the whitepaper.
As a crypto investor, he is class of 2020. More of a holder than a trader, but never shy to experiment with new protocols.
