MicroStrategy Goes All-In, Averaging Down Its Bitcoin Buys
Experienced traders know that the averaging down strategy can be dangerous. However, MicroStrategy's analysts believe that the market setback is a good opportunity to increase position volumes. But how much risk does this game incur?
Averaging down means buying more of an asset when the price is falling. If you buy Bitcoin at $60,000 and $40,000, the average price paid is $50,000. In this scenario, the investor makes a profit if the price goes above $50,000 but doesn't reach the initial buying price of $60,000.
If you're confident the price will increase, things look good. Problems arise, however, if the price drawdown continues or consolidation occurs over an extended period. Classic trading and investment literature suggests closing your position if the fundamental base has changed or the risk exceeds the expected level. But that's well and good if you're managing someone else's money.
MicroStrategy is a publicly traded company that borrows funds by selling its stock for quality capital management. When it's successful, all shareholders receive profit through dividends and higher stock prices. However, a shortage of funds for operating activities would threaten the company with bankruptcy and its investors with the loss of their investment. The company's management decided to walk on thin ice when it announced a $400 million bond issue maturing in 2028 to buy Bitcoin again.
This is not the company's first purchase of the cryptocurrency with additional collateral. It also issued $1 billion in debt securities in February when it bought Bitcoin at an average price of $48,000. Presently, MicroStrategy is one of the biggest public holders of Bitcoin, with a total of 92,079 BTC. However, a company's general financial condition can be properly assessed by its stock prices:
Bitcoin doesn't have to dive too low to swallow up buyers like MicroStrategy. If Bitcoin's price consolidates for a few years, the company will be unable to repay its debt.
Institutional investors caused the 2020 rally, but they also overheated the cryptocurrency market by pumping large sums of borrowed funds into it. Young retail investors already felt the power of a cryptocurrency storm when all leveraged positions were liquidated in May. Is it time for the big fish to follow suit?
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