Is Ether Poised for an Extended Rally?

The price of Ether has staged an impressive rally in the lead up to the much anticipated London Upgrade. It crossed $2,500 for the first time since June 16, 2021 over last weekend, and has been on an upward trend since. The anticipation culminated in a stellar 5% rise within an hour after activation of the London Upgrade. Expectations of changes engendered by London buoyed Ether above critical technical hurdles and fueled the break above major psychological barrier at $3,000. 

Why London Upgrade Matters 

Some believe that the impact of the London Upgrade is comparable to that of Bitcoin halving, a quadrennial event during which BTC block rewards are slashed by half. This means that halving reduces the rate at which newly minted bitcoins enter circulation, and in turn, slows the rate of inflation. 

Unlike Bitcoin’s fixed supply, Ether is currently an inflationary asset, with new issuance increasing the total supply of ETH over time. Here is where the London Upgrade, which has been recently activated, comes into the picture. The London upgrade’s five improvement proposals include EIP 1559, a code change that fundamentally alters the fee structure on the Ethereum network. Prior to the upgrade, making a transaction on the network requires paying a gas fee to miners to validate the transaction. As a result, miners’ revenue consists of gas fees and block rewards. 

Source: The Block

 

In the world of growing DeFi applications and renewed NFT hypes, the Ethereum network could sometimes be highly congested, leading to disproportionate spikes in gas fees, to an extent where small or frequent transactions become infeasible. 

Source: Coin Metrics 

EIP 1559 aims to provide a solution to the gas fee conundrum by introducing the concept of base fee, typically determined by the protocol, and optional tip, which offers incentives to accelerate the validation process. The dual structure makes gas fees more predictable, while providing a “burn” mechanism that permanently removes a percentage of Ether from circulation, reducing the total circulating supply, thus moving one step closer to transforming Ethereum into a deflationary economy — with Eth2, the eventual shift to POS, on the horizon, of course.  

Source: Consensys 

As of the time of writing, 11,830 ETH worth around $36 million has been burnt, according to Etherchain’s burn tracker, putting the new protocol on track to burn 2.1 million ETH per year.

Source: Etherchain 

However, as long as the underlying Proof-of-Work mechanism remains intact, miners will continue to receive two newly issued ETH for every new block mined. For Ethereum to be considered immediately deflationary, daily tokens burned must at least offset daily block rewards given to miners. Judging from current on-chain activities, that would require gas fees to float above 20 gwei, based on the simulation by Ultrasound.money.  

Source: Ultrasound.money

With the advent of several layer 2 scaling solutions, the network’s gas fee has retracted significantly since the beginning of the DeFi summer in 2020, and has been stabilizing near the lower end of 50 gwei for quite some time after the massive selloff in May. 

Source: Glassnode

What Do On-Chain Metrics Say

Eclipsed by growing euphoria across markets, on-chain metrics in comparison remained rather lackluster. Short-term holders net unrealized profit/loss (NUPL) suggests that short-term traders and new entrants have narrowly escaped the capitulation zone and are merely halfway towards being hopeful again, despite Ether’s recent record-breaking winning streak. 

Source: Glassnode

Perhaps, on-chain metrics don’t respond immediately to London’s activation. Could it be that the bullish lead-up towards London is driven by a confluence of various factors? The resurgence of the NFT market has also breathed much life into the bullish upturn of ETH, and the effect is likely to halo the London Hard Fork. 

Source: Into the Block

The impact is evidenced by the spikes in gas fees over the past two weeks. The renewed interest in non-fungible collectibles has sent popular NFT collections to top the list of best-performing tokens in 2021. 

Broader Markets 

The speculation that builds up toward the London Upgrade has seen a notable increase in open interest and volume on ETH options. Massive call buying activities have pushed ETH options put call ratio to a 3-month low. 

Source: Skew

The spotlight of the day shines on ETH options expiring in March 2022, with strike prices of $40,000 and $50,000. It seems that, after all, great expectations for Ether from institutional investors are back on the table. 

Source: Skew