Note: This post was sampled from an email I wrote to a Baby Boomer outlining the investment prospectus for bitcoin. With the increasing insanity of conventional investment opportunities, the marginally-insane bitcoin play is becoming the default option (at least, for those humans concerned with earning a return). The Chair of the Fed can only wear so many robes and say so many platitudes before everyone realizes that nobody can afford to live anywhere, commercial real estate and the old economy are crumbling in front of our faces, and stock prices are actually a thermometer for desperation.
Dear 55-65 year old North American,
It’s true that now is a pretty turbulent time to buy into bitcoin. It recently revisited it’s all time high ($1290) before receding and stabilizing around the $1,000 mark. Of course, in bitcoin “stabilizing” means “+ or – 10% for more than 2 weeks.” Bitcoin was $780 last July, and $450 a year ago today.
Bitcoin is also in the midst of a scaling debate that could drag on for the better part of 2017. The longer it drags on, the more negative pressure I would expect to see on price. I’m surprised it’s remained as resilient as it has so far above $1,000.
The metrics I prefer to track with bitcoin are market cap and number of transactions per day. Market cap because it gives a good idea of how the entire world values the network, and transactions because they can’t be faked. Every transaction has a real world cost. Here’s how bitcoin’s transactions per day have been growing since 2009:
Here’s bitcoin’s market cap since 2009:
Market cap recently hit a high of more than $20 billion before coming back down to around $15 billion. The last time the bitcoin price hit $1200 (in 2013) it represented a market cap of only $12 billion, because the total supply of bitcoins was lower.
Bitcoin supply vs USD & CAD supply
Bitcoin supply is on an exponentially decaying schedule. In 2009, 50 bitcoins were created every 10 minutes. In 2012 that halved to 25 every 10 minutes. Last year it halved again to 12.5 every 10 minutes. Bitcoin will continue to follow that schedule (halving every 4 years) until sometime around 2140 when no more bitcoins will be created. Today, around 80% of all the bitcoins that will ever exist have already been created. The supply schedule is set in open source code, not decided by politicians with $20 trillion in debt to inflate away.
So we have the Federal Reserve and the Bank of Canada, who both say they are shooting for 2% annual inflation. However the USA prints money like there’s no tomorrow and Canada does about the same thing, at least when oil prices go down. Inflation is 2% a year? Okay, sure, except for houses, healthcare, or anything you need to support a family. I’m not buying it. But even if inflation is REALLY 2% a year…that means a $5 hamburger will cost $800 QUADRILLION DOLLARS in 2000 years (check it in excel).
We are told of the magic of “compound interest,” but no one ever mentions “compound inflation.” Only one of these phenomena is guaranteed.
Federal Reserve: “we promise inflation is 2%, but really it’s much higher, and even 2% is robbery because compound interest is never coming back”
Bitcoin: “exponentially decaying supply curve with a fixed supply of 21,000,000 divisible to 8 decimal places; anyone can audit at any time, open source software”
Because of bitcoin’s decaying inflation — if everyone who owned bitcoin today wanted to increase their holdings by 5% this year, they couldn’t do it. There is not enough.
Price and Risks
That scarcity will only matter for price, though, if bitcoin also remains useful and becomes more useful than other currencies. This is a risk (maybe bitcoin stalls out due to developer infighting, for example).
An investment in bitcoin is fundamentally a bet that the Federal Reserve and the Bank of Canada will continue to print their way to “prosperity.”
Real world bitcoin “skin in the game”
Here’s another key growth metric for bitcoin, “hash power.” I won’t get into mining, but you can check out this YouTube video of a bitcoin mine in China.
Note: Mining power has increased more than 10x since the above video was made.
Bitcoin mining requires real physical investment. People have to trade USD, Chinese Yuan, CAD, Euros, bitcoin, or gold for this mining equipment, and it goes obsolete every 2 months or so. The electrical bill of the worldwide bitcoin mining network is more than $1 million a day. Here’s how the amount of “hash power” has grown since 2009 (a proxy for “number of computers supporting the network” and a proxy for “how much have businesses and individuals invested in this system and how likely are they to protect that investment”):
The new “Digital Scarcity” economy
Whatever happens, Digital Scarcity is here to stay. My entire generation doesn’t buy gold because we can’t afford houses to store it in (and because Canada charged me $60 to bring 1 oz in the country), and gold has a $7 trillion market cap.
The ability to store value independently of a bank or government will only become more important as heavily indebted and increasingly desperate financial institutions run out of options. Digital Scarcity solves that problem, and Bitcoin owns the lion’s share of the Digital Scarcity space. Because empirical experience is so important to future growth, I think Bitcoin is the most likely pick to continue dominating that space.
Risks (in order of likelihood)
- Bitcoin is in the middle of a contentious debate on how it should scale. I think the price impact of this debate could be as detrimental as negative 50% in 2017
- Another token in the Digital Scarcity space may outperform bitcoin and take over as the “leader;” likely an unrecoverable position (similar to what happened with MySpace and Facebook)
- Bitcoin exchanges are declared illegal (can mitigate by moving your bitcoin off the exchange as soon as you buy it)
- The Federal Reserve announces tomorrow that the gold standard will be reintroduced, and everyone believes them
- Bitcoin is subject to a catastrophic hack
- Bitcoin has gone from $0 to more than $1000; and it’s market cap remains trivial. For example SnapChat is worth more than the entire bitcoin market cap right now. For a protocol that competes with Gold, $20 billion is a joke. $1 trillion is possible, even reasonable, representing a 50x upside.
- Any country tired of being pushed around by dollar diplomacy could buy 1,000 bitcoin, declare bitcoin as their reserve currency, and immediately become wealthy
- Even if the investment performs poorly, you do your part to not participate in the prevailing Economy of Bamboozlement
Investing in bitcoin comes with serious risks, but the pot odds upside is historically unprecedented. Also…look around. Nobody can afford houses (I don’t count taking on 30 years of debt as a 30 year old in a two-income professional family with no kids to be “affording” anything). Buildings are un-maintained because there is no return on property for commercial leases anymore (all shopping going online). Equities are the most insanely overpriced they have been in a long history of insane overpricing. Loss-making companies like Snapchat command $30 billion valuations by issuing non-voting shares! True, maybe there is 50% more to gain in stocks. But there isn’t 50x, and the downside risk of the equities market is about the same as bitcoin (both could lose 50% in the short term).
I think bitcoin should be treated as a speculative investment. Probably a 50% chance the price falls to $500 this year, and a 5% chance of a catastrophic event that takes it to zero in the next 5 years. These risks are offset by the 50% chance that bitcoin triples in 2017, and the 100% chance that some token in the Digital Scarcity space will “win” and dominate the market (with bitcoin being the most likely).
Netflix disrupted Blockbuster and today has a market cap of $64 billion dollars. Bitcoin could replace the entire financial sector of the world economy, and it’s market cap is $15 billion.
I don’t encourage anyone to bet the farm on it, but limited exposure is advisable…even now where both a 50% price drop and a 300% increase are both possible in 2017.
Let me know if any questions 🙂
At the time of this post, 1 BTC traded for $1213.76 on Coinbase