Tue, Aug 09, 2022 @ 14:09 GMT
HomeContributorsFundamental AnalysisEthereum Outperforms Bitcoin as Merge Continues to Attract Attention

Ethereum Outperforms Bitcoin as Merge Continues to Attract Attention

The major cryptocurrencies have been steadily climbing since mid-June, recovering somewhat from the heavy losses suffered from April and emulating the stock rebound on Wall Street. Bitcoin has gained a healthy 30% from the June low point, but its rival Ether – the world’s second most popular crypto – has staged an even more impressive comeback, rallying by about 90%. Although Ether is known to be more volatile than Bitcoin, there is more than just the bounce back in broader risk assets driving this upswing.

The merge

Ethereum – the blockchain-based platform that processes the payments made via Ether – will receive a major upgrade on September 19 when the network will merge with Beacon Chain, replacing the existing proof-of-work (PoW) mechanism with a proof-of-stake (PoS) one. PoW is currently how most cryptocurrencies like Bitcoin are mined. But this system is seen as inefficient as it requires a lot of computing power to validate incoming transactions and transaction speeds are slow. It can also be quite costly for would-be miners to invest in the right software and hardware equipment.

In comparison, PoS uses less energy, is faster and does not require miners. Instead, PoS has validators who don’t need any specialized equipment to participate. However, it does have one major drawback, which is it’s not as secure as the more proven PoW system.

A supply shock?

But the most important distinction between the two is that in proof of stake, validators have to ‘stake’ a certain amount of their coins or tokens as a form of guarantee. This is in fact the primary concept on which the PoS mechanism is built upon in that it assumes that participants staking their funds will want to do things correctly to maintain the integrity of the blockchain network so as not to lose their stake.

And this is what could prove to be a game changer for Ether and Ethereum as the method of staking will significantly reduce the supply of the coin in circulation. The annual issuance of new Ether is also expected to be affected as the amount will be determined by how much validators stake rather than the current fixed rate of approximately 4.5 million a year.

The potential deflationary impact of the switch from PoW to PoS is what’s spurring this speculative interest in Ethereum, magnifying its upside whenever cryptos are rallying.

Bullish hopes

The price of ETHUSD hit a six-week high of $1,677.51 on Thursday. If the positive momentum gathers more steam, the $2,000 level will likely be eyed next before challenging the heavily congested region of $2,500.

The problem for the bulls, though, is that a more meaningful rally may not come until after the merge in September. An improvement in the macroeconomic environment by year-end might also propel Ethereum and other cryptocurrencies higher if inflationary pressures begin to moderate in the coming months and central banks like the Fed pause hiking interest rates.

Equity markets are already encouraged by the possibility of rate cuts in 2023 despite the increasing prospect of a recession in the interim and many traders are betting that stocks have bottomed out. Given how strong the positive correlation between equities and cryptos has grown this year, this could also be true for the crypto market.

Uncertainties ahead

However, it’s also possible that the worst has yet to come. For example, Europe’s energy crisis may only just be unfolding, and the Fed risks overestimating the spending power of the US consumer. If stocks tumble again, so would cryptos.

A sharp selloff could push ETHUSD towards the 50-day moving average, which is converging with the 161.8% Fibonacci extensions of the January-April uptrend around $1,280. A breach below it would pave the way for the $900 support zone, which defended the price back in June, while steeper declines could stretch until the $500 level.

Another risk and one that is more specific to cryptos is the liquidity problems facing some crypto lending and exchange platforms such as Coinbase. It comes after crypto lenders Celsius Network and Voyager Digital recently filed for bankruptcy, fuelling fears of full-scale liquidity crisis.

More upgrades to come

For Ethereum, the hype around the upcoming merge could yet cushion it against another crash, or at the very least, expedite any rebound that follows. Moreover, further updates are planned for Ethereum, such as the ‘surge’ upgrade that will boost its transaction processing capabilities. Hence, this phase of outperformance may only be just starting.

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