Bitcoin Is Diversification*
or: Why Bitcoin Will Be the Asset That Diversifies Best
*This is not financial advice. You are responsible for any decisions you make as a result of this article.
(Klicke hier für die deutsche Version.)
The ABCs of investors include the mnemonic of diversifying their assets. This idea, originating around 1900, can be traced back to Louis Bachelier and Harry Markowitz. It was first implemented in 1967 in an experiment by Forbes editors. The success of their “Dart Fund” became widely known, leading to the introduction of the first index funds, better known as ETFs (Exchange Traded Funds), in the 1970s. An average return of over 9 percent spoke for itself and could not be beaten by any professionally managed investment fund [1].
Since 2009, we have had a decentralized money that has simultaneously launched a new experiment in asset diversification: Bitcoin. By this, I do not mean that Bitcoin should be added to a portfolio, but that Bitcoin alone represents the best diversification. I will outline my thought process below, starting with the MSCI ACWI (All Country World Index). You can extend my thoughts independently to other assets from bonds to real estate to commodities.
How Well Do ETFs Diversify?
MSCI ACWI ETFs are considered by many to be the kings of equity diversification. With them, you can invest in 2,982 companies from 23 developed countries and 24 emerging markets [2]. Although MSCI ACWI ETFs have a significant advantage over individual stocks in asset management, they fall short of the possibilities Bitcoin offers. With MSCI ACWI ETFs, you can only diversify your savings into companies that are publicly listed. Unfortunately, more than 99.9 percent of the world’s companies are not publicly listed. Of the nearly 3 million German companies, only 438 are publicly traded [3]. The same applies worldwide and even more so for emerging markets.
You see, most companies are currently excluded from diversification. However, aside from the stock market, there is another market that no company can avoid: the money market. Every company needs liquidity to survive and thrive.
Where Does Money Get Its Value From?
Without liquidity, companies cannot invest in the research, development, and marketing of new products. They need money to diversify their business, that is, their offerings and market positioning. This diversification, in turn, affects money itself. Therefore, money diversifies better than any other asset, which can only represent partial markets. This relationship becomes clearer when we consider where money derives its value from.
The Fed and ECB often emphasize that Bitcoin has no intrinsic value, while ignoring that the same applies to the dollar and the euro. Because money has never had intrinsic value. ‘Intrinsic’ means ‘coming from within.’ Value, on the other hand, is a subjective property that only people can assign to something. Combine the meanings of these two terms, and you recognize that the value of money would dry up without people. The euro is of no interest to animals or plants. Value has a lot to do with trust, the trust people have in the qualities of good money.
But how much is money worth? To understand this, let’s look at a 100 euro note. You have personally experienced that the value of these 100 euros has changed over the past few years. Its purchasing power is decreasing, and you get less for it or have to spend more money for the same goods. Since the introduction of the euro in 2002, it has lost almost 80 percent of its value by 2021 [7]. Simply put, this means that goods that cost you 100 euros today would have cost you only about 20 euros in 2002.
If the value of money is not its minting, its nominal value, the number printed on it, then what is its value? As already mentioned, the value of money, as well as of goods and services, results from the subjective evaluation of people. The exchange of products or services for money is what we call a purchase, where comparable values change hands. If the values of the goods and the money differ, no trade takes place. In this sense, the value of all services and products for which people have paid corresponds to the total value of the money supply. Accordingly, 100 euros reflect the corresponding fraction of the subjective economic value.
This also means that the value of money, unlike ETFs, can benefit from every company whose goods are purchased. There’s just one hitch: once the money supply is altered, the subjective valuation of goods adjusts over time to the new money supply. In short, expansion of the money supply is sooner or later followed by an increase in prices. This loss of purchasing power is known as inflation.
Saving What’s Valuable, Spending What’s Not
According to Gresham’s Law, people keep the better money and spend the inferior one [8]. This is precisely what is observed worldwide. More and more people are spending their fiat money and saving in the only currency whose supply cannot be expanded in the future: Bitcoin. Already, Bitcoin’s monetary inflation* is lower than that of gold (1 to 1.5 percent per year) [9], which is the asset with the lowest inflation rate so far.
*Currently, there are 19.7 million Bitcoins in circulation, and a maximum of 164,250 Bitcoins are added each year. This results in a maximum monetary inflation rate of 0.834 percent per year.
Bitcoin’s rules state that its inflation will drop to zero around the year 2140. Its supply cannot be changed because almost 100 percent of Bitcoin users would have to agree to such a change. And that is highly unlikely. Anyone who makes this change on their own starts their own money and loses the value attributed to Bitcoin.
*More precisely, the operators of Bitcoin full nodes must agree. They provide a home for the rules of the Bitcoin network. Currently, there are 19,940 publicly known nodes [10]. It is estimated that about ten times that amount are operating behind TOR [11]. In total, that makes approximately 199,400 Bitcoin full nodes worldwide. Anyone can operate a full node to prevent changes to the rules. You can too.
The immutability of Bitcoin combined with its rules attracts investors and savers. Savers who do not want to lose at least half of their wealth over the course of their working lives are drawn to it.
What If Bitcoin Becomes The World’s Money?
Maybe you think that Bitcoin will never become the world’s money. Maybe you’re right. But perhaps the 2 billion people worldwide who currently do not have a bank account will make you think again [12]. They are discovering Bitcoin for themselves because it requires no permission and has no account maintenance fees. These 2 billion people, who suffer especially from the inflation of their local currencies, are discovering Bitcoin as a way to preserve their value and escape poverty.
At this point, opponents often argue that Bitcoin would be too volatile to serve as money. However, reality shows that inflation in poorer countries is the greater evil, and Bitcoin’s positive attributes outweigh its volatility.
Bitcoin enables the unbanked to save their wealth for the first time without any third parties being able to intervene. These savings also allow savers to invest in new business ideas. Business ideas for which they previously lacked the money and which mean economic growth. Economic growth that will further increase the value of Bitcoin.
Bitcoin Aims For The World’s Gross Domestic Product
To summarize: On one hand, all the money in the world reflects the global economic output. Money is directly involved in the success of every company. It signals successful business transactions. On the other hand, people prefer what is valuable over what is less valuable. In terms of value preservation, Bitcoin is superior to fiat money due to its immutability and limited supply. This leads to Bitcoin’s market capitalization aiming to match the value of the world’s Gross Domestic Product (GDP). I can’t think of any reason why it shouldn’t eventually reflect it. Can you? (Please leave your comment.)
In other words, value always flows to where investors see it best protected. In the past, these were stocks, ETFs, real estate, and commodities because the dollar and the euro lose purchasing power. In the future, this will be Bitcoin, because its properties are superior to those of other assets.
The rapid pace of this shift has been recently highlighted by the Bitcoin spot ETFs in the USA and Hong Kong. Through BlackRock’s spot ETF IBIT alone, $20 billion worth of Bitcoin was purchased in the first 137 days of trading [13]. No ETF has ever accumulated so much money in such a short time. This shift of value towards Bitcoin will continue until it reflects the world’s GDP. And every company that contributes to Bitcoin’s value also diversifies it.
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Sources
[1] https://www.boerse-frankfurt.de/wissen/wertpapiere/etfs-und-etps/geschichte As of: 06.05.2024
[2] https://www.justetf.com/de/how-to/msci-acwi-etfs.html As of: 06.05.2024
[3] https://www.finanzfluss.de/blog/deutschland-marktkapitalisierung/ As of: 06.05.2024
[4] https://www.blocktrainer.de/wissen/blocktrainer-1x1/eigenschaften-von-gutem-geld/ As of: 06.05.2024
[5] https://www.amazon.de/Bitcoin-Standard-Die-dezentrale-Alternative-Zentralbankensystem/dp/3982109507 As of: 06.05.2024
[6] https://www.blocktrainer.de/wissen/blocktrainer-1x1/eigenschaften-von-gutem-geld/ As of: 06.05.2024
[7] https://www.hartmut-naujok.de/wertverlust-euro-dollar.html As of: 06.05.2024
[8] https://de.wikipedia.org/wiki/Greshamsches_Gesetz As of: 09.06.2024
[9] https://bitcoin-2go.de/bitcoin-vs-fiatwaehrungen-inflation/ As of: 09.06.2024
[10] https://bitnodes.io/ As of: 09.06.2024
[11] Even more precisely, it is estimated that 7.5 to 43 times that amount are operating behind TOR. https://en.bitcoin.it/wiki/Clearing_Up_Misconceptions_About_Full_Nodes As of: 22.06.2024
[12] https://www.capital.de/wirtschaft-politik/ueber-zwei-milliarden-menschen-besitzen-kein-bankkonto As of: 09.06.2024
[13] https://x.com/thomas_fahrer/status/1795964155247137172 As of: 09.06.2024
Image: https://pixabay.com/photos/crowd-people-silhouettes-2718833/
