Litecoin Investment Analysis — Time to Sell?

Table of Contents

1. What is Litecoin? Key differences between Bitcoin and Litecoin
2. Litecoin’s SoV and MoE propositions. Store of Value (SoV). Medium of Exchange (MoE)
3. Litecoin’s future expectations. MimbleWimble. Litecoin’s financial and dev resources. Current LTC holders
4. Response to Sfox’s factors contributing to the recent Litecoin rally. Factor #1: Increased Adoption. Factor #2: Lower Fees. Factor #3: Faster Transactions. Factor #4: Private Transactions. Factor #5: Decreased Rate of New LTC Supply
5. Trading price considerations and conclusion
6. Selected reading list

What is Litecoin?

Litecoin is a Bitcoin fork and the first successful altcoin. Litecoin was created by Charlie Lee, a former Google engineer, in 2011. Litecoin release was not accompanied by a whitepaper likely due to immaterial differences from Bitcoin.

Key differences between Bitcoin and Litecoin

Key changes that differentiate Litecoin from Bitcoin include:

1. Hash algorithm: SHA256 → Scrypt,
2. Block Time: 10 minutes → 2.5 minutes, and
3. Coin Limit: 21 million → 84 million.

The Scrypt hash algorithm is less complex and highly memory intensive. Its simplicity allows for a lower hashrate, while its memory requirement creates additional complexity in the development of mining hardware. As a result, Litecoin mining has been more distributed than Bitcoin mining for most of Litecoin’s existence — up until ASICs have been adjusted for Litecoin. Block time reduction has been touted to make Litecoin more usable for value exchange.

Litecoin’s SoV and MoE propositions

Litecoin vision has been to become a fairer Store of Value (SoV) asset with better Medium of Exchange (MoE) mechanics as compared to those of Bitcoin.

Store of Value (SoV)

SoV assets benefit tremendously from network effects. The permissionless and decentralised qualities make cryptocurrencies a perfect commodity that is accessible by the widest global audience. The more people view a digital asset as a SoV the less reason there is to look for an alternative. In order to assess Litecoin’s proposition as a SoV, one can look at key SoV requirements such as security and liquidity.

Litecoin is dwarfed by Bitcoin in both network security budget and trading volumes across exchanges and platforms like LocalBitcoins. With the creation of Litecoin ASICs, Litecoin mining has lost its advantage of being more decentralised.

In the winner-take-all SoV market, Litecoin does not currently have either the leading position or a strong competitive advantage that could help it become the leader. Anecdotal real-life evidence from Venezuela and Iran support this thesis. When fiat currencies face massive depreciation or suffer from sanctions, Bitcoin has become the digital asset people choose to store their wealth in.

Medium of Exchange (MoE)

Existing research suggests that payments for goods and services represent a minority of Bitcoin transactions. There can be many reasons for which Bitcoin, and likely other cryptocurrencies, have achieved limited adoption as payment routes: capital gains taxes incurred by paying with crypto, volatile valuation of coins and tokens, floating cost of making a transaction, slow execution of payment, probabilistic finality of transactions in Proof of Work networks, limited ability to revert payments, lack of supporting infrastructure and others.

At the time of its creation, Litecoin did provide some benefits as a MoE compared to Bitcoin, mainly in the form of quicker transaction times due to shorter block times. However, more recent developments, including the Bitcoin Lightning network and stablecoins, provide more radical solutions to the stumbling blocks identified in the preceding paragraph. This leaves Litecoin with no material differentiating factors supporting its aim to become the leading MoE.

Litecoin.com claims that over 1mn merchants accept Litecoin as payment. However, it has not been reported how much Litecoin activity is attributed to payments for goods and services. Moreover, although a number of payment processors (e.g. BitPay) and debit card networks (e.g. Wirex) support payments with LTC, they offer crypto payment rails for a basket of cryptocurrencies. Hence the 1mn merchants did not necessarily choose LTC to be the payment rail of choice. Notably, the only Litecoin-specific payment processor, Litepay, ceased operation in March 2018, discrediting Litecoin’s MoE proposition.

Despite the weaknesses listed above, Litecoin’s Adjusted NVT (a measure of network valuation multiple per on-chain activity) is among the highest in its peer group.

Litecoin is #2 in its peer group by Adjusted NVT Ratio

This would imply that Litecoin holders are expecting a growth in the utility and adoption of Litecoin. But where is the growth going to come from?

Litecoin’s future expectations

MimbleWimble

Litecoin does not have a public roadmap for future development. Implementation of MimbleWimble protocol has been the most widely publicised direction of development. MimbleWimble is a privacy-enhancing protocol ensuring transaction anonymity. It is important to note that so far the only development in this area has been an announcement that Litecoin Foundation and developers are “exploring it”.

Litecoin has a history of being the first in the successful implementation of existing proposals, such as SegWit. However, the competitive landscape has changed dramatically since those times. There are already 2 live blockchains who have implemented the MimbleWimble protocol (Grin and Beam). Other privacy-focused networks are also getting popularity (Monero, ZCash). The increased competition and the ease with which new Litecoin features can be ported onto Bitcoin and its forks are likely to limit Litecoin’s ability to grow and sustain its lead even if it succeeds in implementing MimbleWimble.

Litecoin’s financial and dev resources

Litecoin’s ability to ship code is currently constrained. Litecoin Foundation lists only 2 full-time sponsored developers. As of January 2019, there was only 1 voluntary developer, making the total number of monthly developers of only 3. It is the lowest number of developers Litecoin had over the past year and significantly lower than the 40 active developers at the beginning of 2018. This compares unfavourably to the 43 currently active developers for Bitcoin, 11 for Bitcoin Cash and 32 for Monero.

These constraints would be difficult to overcome. According to unaudited December 2018 financials, the foundation had less than USD 150k in liquid assets. With a yearly budget of less than 100k [USD, presumably], the foundation would not have financial resources to hire new developers. Community support has also been fading, as evidenced by the reduction in voluntary developers, by less than USD 1k in donations received in the second half of 2018 and by subpar merchandise sales resulting in negative Gross Income (i.e. income before overheads) of Litecoin Foundation in the second half of 2018.

Current LTC holders

Many prominent long-term focused institutional investors have expressed their disbelief in Litecoin. Tushar Jain of Multicoin Capital has published a post in support of the fund’s LTC shorting strategy. Murad Mahmudov of Adaptive Capital calls Litecoin “the least differentiated coin” and Michael Novogratz of Galaxy Investment Partners is equally sceptical of LTC’s current valuation.

So who represents the current holder base of LTC? As of December 2018, 25% of all LTC in circulation has been reported to be held by Coinbase. Given the security sacrifice associated with storing crypto on an exchange, it could mean that at least 25% of LTC holders are either unsophisticated investors or short-term traders. Neither of these groups is likely to have chosen to store their wealth in LTC as a result of extensive due diligence into Litecoin’s long term prospects.

Equally as notable is the fact that Charlie Lee, the creator of Litecoin and a Litecoin Foundation Managing Partner, has sold off his entire LTC holdings and no longer has any skin in the game. He announced the completion of the sale on December 20, 2017, a date on which LTC was trading around $322.

The best recent analytical piece written in support of Litecoin that I could find was SFOX’s 5-factor analysis of the recent LTC price rise from 0.007 BTC in Dec ’18 to the current local maxima of 0.014 BTC. I shall respond to each of the factors identified before providing an LTC trading overview and a conclusion.

Response to Sfox’s factors contributing to the recent Litecoin rally

Factor #1: Increased Adoption

SFOX argue that LTC’s partnership with Spend, announced on February 13th, increased the number of locations where LTC can be spent by 40 million and hence warrants the price increase.

Response

However, there is no evidence that Spend has a significant number of cards in circulation. Moreover, LTC could previously be loaded onto Wirex, Revolut Metal and Cryptopay debit cards. Inclusion of LTC to the Spend offering is unlikely to have a material impact on merchant acceptance of LTC.

Factor #2: Lower Fees.

SFOX make a statement that Litecoin Core 0.17.1’s release (the beta of which just launched in March 2019) was expected to reduce Litecoin’s transaction fees by 10x and thus contributed to the increase in LTC price.

Response

The average transaction fee as it stands on the network is Ł0.001 per KB or ~$0.05. With the announced changes that can soon become Ł0.0001 per KB or ~ $0.005. However, most LTC transactions are less than 1 KB and hence this change is likely to remain unnoticeable. Secondly, it is reported that the Litecoin network is already operating with a 0.00001 LTC per KB minimal fee setup, but wallet applications and services are not taking advantage of this. Lastly, given that at least 25% of LTC sits on exchanges, where transaction costs are determined by withdrawal fees, the fee reduction is unlikely to stimulate more transactions in LTC.

Factor #3: Faster Transactions.

Litecoin Lightning Network has achieved 100 nodes in Jan 2019. This growth is seen as a catalyst for the price increase.

Response

Growth in Litecoin Lightning network improves Litecoin’s utility and hence warrants a price increase. However, it is important to note that just like SoV, MoE market is likely to be a winner-take-all one where the leader grabs the dominant market share. In that respect, Litecoin still has a lot of work ahead. 100 Litecoin Lightning network nodes are completely dwarfed by the larger Bitcoin Lightning network. The Bitcoin Lightning network has over 7,000 nodes with combined channels worth over 1,000 BTC (over USD 6mn) as compared to Litecoin’s less than 300 LTC (less than USD 25k) capacity. With both Bitcoin and Litecoin Lightning Networks growing at comparable speeds, Litecoin’s smaller network is unlikely to bootstrap stronger network effects to out-compete Bitcoin’s comparatively fast Lightning network transaction speeds.

Factor #4: Private Transactions.

It was announced on February 7th, 2019 that the Litecoin Foundation is exploring using the MimbleWimble protocol to add confidential transactions to the Litecoin network.

Response

As discussed in more detail earlier, there have been no reports on any porting work done apart from the initial exploration. Litecoin’s constrained dev resources is likely to postpone a successful integration of the protocol. Lastly, should it be integrated, it would face competition from other MimbleWimble implementations (Grin, Beam) and other privacy-focused cryptocurrencies (Monero, ZCash). All these factors contribute to private transactions having a small chance in helping Litecoin keep its lead in the market.

Factor #5: Decreased Rate of New LTC Supply.

SFOX speculates that mining reward halving in August 2019 could have contributed to LTC price growth.

Response

Halving would reduce the selling pressure from miners from 14,400 LTC per year to 7,200 LTC. Although the reduction of selling pressure does indeed improve the price outlook for investors, there are a number of factors that prevent this factor from explaining the increase in price.

Firstly, the reduction in LTC’s new supply represents a small proportion of LTC trading volume. A 50% reduction in the new supply doesn’t warrant a doubling in LTC price. Secondly, given that inflation schedule has been public since the creation of LTC, rational investors would have already priced the halving in hence further limiting the explanatory power of this factor.

Trading price considerations and conclusion

Litecoin is currently trading at 0.016 BTC. This compares to the 2-year high of 0.025 BTC and the 2-year low of 0.007 BTC. The all-time high (ATH) valuation was achieved in March 2018 when Bitcoin was at c. $10k. When BTC peaked at c. $20k, LTC was at 0.02 BTC.

For the reasons described above, the conditions that had helped LTC reach its ATH are no longer present. Key changes in the crypto market include:

• Increased competition in form of other crypto cash alternatives (e.g. Bitcoin Cash, Dash), privacy-focused currencies (Monero, ZCash), fast transactions with help of Bitcoin Lightning network, stablecoins (e.g. Tether, USDC, TUSD, Dai) and other projects with richer foundations (e.g. ZCash having a bigger war chest to push its product into the market)
• Wider choice of asses trading against fiat (vs. Litecoin being one of c. 5 assets available for purchase on Coinbase). Interesting fact: once LTC became tradable on Coinbase it surged in price from $23 to $32
• A better investor knowledge base that makes it easier for newcomers into the crypto space to learn the basics, such as that one can purchase a fraction of Bitcoin and the importance of looking at market cap vs price of a coin in isolation
• More mature trading infrastructure making it easier to short LTC

This analysis concludes that

• the recent Litecoin price rise to over 0.016 BTC is not supported by material improvements in fundamentals
• Conditions that helped LTC reach its ATH of c. 0.025 BTC are no longer present
• Litecoin’s differentiating factors continue being generalised with no new unique selling points seen on the horizon

Based on the above conclusion, it is unlikely that LTC reaches the 0.025 BTC price in 2019. With LTC price being at over 2x in BTC terms since the local minima, there exists an opportunity to benefit from a potential market correction.

Selected reading list

• https://litecoin-foundation.org/
• https://messari.io/research/project/litecoin
• https://1ml.com/litecoin (Litecoin Lightning Network stats)
• https://multicoin.capital/2018/09/14/debunking-market-narratives-litecoin-ltc-edition/
• https://blog.sfox.com/litecoin-vs-bitcoin-the-story-of-the-most-successful-bitcoin-clone-ac23960c336c
• https://blog.sfox.com/the-litecoin-price-increase-a-fundamental-analysis-e3e641c76024
• https://www.electriccapital.com/electric-research/2019/3/6/dev-report-published-march-2019