In the spring of 2020, the pandemic hit global energy and crypto prices hard. An oil price war followed, almost causing a collapse of the energy sector. Liquidity was withdrawn and demand for energy fell sharply, and Bitcoin was dragged down with it. Now the sentiment has reversed by 360 degrees. In the fall of 2021, energy and crypto are hot assets that top asset allocation lists. Oil futures and Bitcoin took leadership of the markets, and had that not been the case, global equities may have reached record highs.
Previously, I have discussed the relationship between Bitcoin and equities. The list of companies that have directly invested in Bitcoin or offer crypto services has grown to $3 trillion in market capitalization. Their weight in the benchmark S&P index is about 7%. When the price of Bitcoin changes, it has an impact on equities.
The relationship between Bitcoin and crude prices has also intensified since the summer of 2020. According to the Digiconomist, Bitcoin mining accounts for 0.29% of the world’s annual electricity consumption. Bitcoin’s carbon footprint is 88 metric tons of CO2, equivalent to Chile’s annual output. The electricity usage is comparable to annual electricity consumption in Thailand. Bitcoin is energy intensive, and the more transactions take place in crypto, the stronger the relationship of Bitcoin to oil, gas and other energy sources.
A global energy crunch could affect Bitcoin and Ethereum mining although that does depend on where the mining activity takes place. Yet, the price of Bitcoin could rise because the natural limit to mining could become a barrier earlier than foreseen when energy encounters persistent constraints from climate-change-mandated emission reductions. In other words, the mining limit will be reached as the UN Climate Change Conference presently underway in Glasgow, COP26, accelerates countries’ efforts to diminish excessive energy output.
In financial markets, a strengthening connection between Bitcoin and energy could imply that the weighting of the S&P index may see a dramatic shift. It is more than just a financial equation. If Bitcoin becomes a leading force for the U.S. stock market because of a structural change in energy markets, the likelihood of companies adopting crypto as part of their carbon foot policies could become the status quo.
The transition from traditional energy to carbon-free energy sources could alter the weight of energy in the S&P. That could also affect crypto weight, as the energy transition should change the way Bitcoins are mined. As the process of mining morphs, the digital payment system will experience an even swifter adoption of central bank digital currencies. China’s determined rollout of e-CNY could be connected to China’s recent crypto mining ban. The theory is that China is seeking to change perceptions about its reputation as the world’s No. 1 polluter.
The energy-Bitcoin connection goes deeper than a random correlation. The crypto ecosystem is affected by the nature of the energy system, which has been forced to change because of the pandemic that has put climate risks at center stage of global policy. Carbon trading, for example, could play an essential role as the next frontier for crypto trading. The idea is that countries eager to exchange credits to meet net-zero requirements would purchase carbon credits through crypto exchanges.
Carbon coins are already in circulation as a Bitcoin-like currency that energy ministries distribute for carbon sequestration at a rate of one coin to one metric ton of carbon. BitMEX, the Seychelles-based derivatives exchange, purchased $100,000 of carbon credits, representing 7,110 metric tons of carbon dioxide emissions.
Of course, crypto’s carbon intensity is under scrutiny as well and that led to the Crypto Climate Accord in April, a voluntary framework to reduce to zero net carbon emissions from electricity by 2030. The energy-Bitcoin connection is likely to develop further and become one of the markets’ most important financial relationships.