As an investor in this brand-new asset class that is internet money, I’ve been skeptical of the thousands of internet money tokens that have come onto the scene over the past few years. Intuitively, I have dismissed all other coins as scams, except for Bitcoin and Ethereum. In addition, it has been my belief that since the Internet money space is so new, I could not be completely sure of the future outcome of any single Internet money, so it was better to spread my financial risk between two coins — Bitcoin (BTC) and Ether (ETH).
As a result I balanced my Internet money portfolio roughly 50/50 between the two coins during the past couple of years, but as an investor I am constantly searching for new opportunities and at the same time avoid losing money. As I learn new information, I am open to changing my mind.
This note is an exercise to “stress-test” my Internet money portfolio to see if I am making the right decision with my portfolio allocation in keeping a large holding of ETH. Most of all, should I sell my ETH and purchase more BTC with the money? In doing so, I would become a “Bitcoin Maximalist” from the investor’s perspective.
Bitcoin Maximalist Investor: A person who believes Bitcoin is the only blockchain project that will capture any significant amount of value.
The Investment Perspective
Comparing the potential use cases for the Bitcoin and Ethereum protocols and the potential return, i.e., how many times I can multiply my money invested measured in “X”’s; Bitcoin appears drastically more appealing than Ethereum.
For Bitcoin, the use case as a superior store of value (SoV) and digital money are clear; and those uses cases work in the real world today. We know from previous work that the potential return for Bitcoin as a SoV is virtually unlimited as Bitcoin has the potential to capture value stored in $263 trillion stored in traditional assets. In addition, Bitcoin as a new form of money means that it has the potential to capture value held in legacy fiat money with a potential to capture an estimated $38 trillion in value (M1 quantity of top 20 countries) or more.
Bitcoin’s use as a SoV and money digital means that Bitcoin has the potential to 2000X and 300X respectively, and Bitcoin is capturing value stored in these assets today. Even if Bitcoin only captured 1% of value stored in these assets the price would increase to over $150,000 per coin.
Potential use cases for both Bitcoin and Ethereum and potential return are summarized below.
The use cases for Ethereum are much less clear. The parts that do work today are only feasible for very small market sizes. For example, Ethereum’s value as a fundraising platform has most likely peaked with the ICO phenomenon of 2017 when hundreds of tokens of which were launched using the Ethereum platform. Among these tokens, none of them have shipped a useful product even with over $20 billion in capital raised.
The use cases of Ethereum that do not work yet have potentially huge markets like the tokenization of assets, but in most cases these tokens can be hosted instead using the more secure and decentralized Bitcoin network.
Ethereum has gained some popularity recently with applications like the CryptoKitties game, which is arguably a working use case for the Ethereum network using the standard ERC 721 non-fungible token. This is all well but despite the potential success of applications that utilize non-fungible assets, these assets such as CryptoKitties are essentially just a SoV. As a store of value these applications are competing to capture value with BTC, which offers much greater liquidity, security, and stable monetary policy. In addition, these non-fungible tokens are reliant on a third-party (the games creator) for hosting.
Importantly, Ethereum tokens (ERC20, tokenized assets, non-fungibles) can (and probably will) be purchased using Bitcoin. It is not even necessary to hold ETH to purchase tokens created on the Ethereum platform. In other words, tokens created on the Ethereum network will further increase the demand to hold and transact in Bitcoin, the default money of the Internet.
Ether is Money (Which one are you gonna HODL?)
Ether was sold to the public market as if investors who purchased were receiving equity in a “fat” protocol. The fat protocol thesis concludes that Ether will capture tremendous value as Ethereum network usage increases by using ETH as “gas” for transactions. However, ETH it is actually a money that is competes with Bitcoin as a Store-of-Value. Evaluated as money, ETH is clearly inferior to Bitcoin.
Most notably, the final monetary supply of Ether has still not been determined. For the time being, the inflation of the ETH is indefinite until a network update is made to create a supply cap. This unclear monetary policy erodes ETH’s use case as a reliable SoV or money.
On the other hand, the monetary policy of Bitcoin is certain with a 21 million coin supply limit. This supply limit is virtually impossible to change as it would require broad network consensus to implement. Informed people will choose to store their savings in Bitcoin, which will ensure economic certainty for their savings due to BTC’s clear monetary policy.
People also want to hold money in the network that is most secure. Bitcoin is the #1 secure blockchain in terms of hash rate while Ethereum is #2. Moreover, since Bitcoin was purposely built to be a SoV and money, it is simple and robust in design; whereas Ethereum protocol is built for general-purpose applications, leading to a larger attack surface and reduced security.
People also prefer to hold money across time that has the highest liquidity. In terms of liquidity, Bitcoin is #1 and Ether is #2.
Bitcoin, Ether, as well as traditional fiat money, do not have any intrinsic value. The value of all money is based on the willingness of others to hold them. In other words, money only has value if people are confident that others will accept it as money. The market will “vote” on which protocol will become the default SoV and money of the internet, and as a result potentially huge amounts of capital will transfer into the Internet’s standard SoV/money, Bitcoin.
Crypto-to-Crypto Exchange Makes HODL’ing ETH Unnecessary
Lightning network atomic swaps and decentralized crypto-to-crypto exchanges make it instant and frictionless to exchange Bitcoin into any other cryptocurrency. Crypto-to-crypto exchange further necessitates that only a single Internet money will become the dominant SoV.
Because of crypto-to-crypto exchange, it is not necessary to hold Ethereum across time (HODL) because BTC can be converted to ETH at any time to be used as “gas” to execute an Ethereum smart contract application. People will choose to store their value across time in Bitcoin, which is the most reliable SoV, and use it to purchase ETH only when necessary. Anecdotally, this is obvious in the world today, with oil being priced in USD, the standard fiat currency.
Bitcoin, as a form of new money, can be used as a unit of account to price all other cryptoassets including ETH, ERC20 tokens, ER721, and app tokens. This is a paradigm shift that is somewhat counterintuitive because people today are so accustomed to assets that are priced in USD.
Smart Contracts Don’t Work
Smart contracts, probably Ethereum’s largest expected use case, will most likely not result in any useful real-world applications.
Ethereum bulls may point to the “tokenization of assets” (TOA) as Ethereum’s “killer app”. The idea is that we will use a token (ERC20 smart contract) to represent a share of ownership in an asset. Most assets will not actually be tokenized because of oracle problems. Oracle problems become an issue when there needs to be a link between the digital and physical world.
For example, many people speculate that tokens will be used to represent land ownership, essentially putting deeds on the secure public blockchain. A person will purchase a piece of land and record this transaction on the blockchain to show their ownership of the land. This will not work however, because there needs to be a third-party entity to verify that the person actually holding the token is indeed the correct owner of the land. How can the digital blockchain really “know” that the physical land has actually been transferred to a person? What if the person that owns the land dies and access to the private key for the token representing land ownership is lost? How will the blockchain make this adjustment? This can’t be done without a third party becoming involved. There needs to be a link between the digital and physical world.
Rule of Thumb: Blockchains can only control digital assets, such as digital money, i.e. Bitcoin.
Blockchains are only useful if they are both decentralized and open. If a third party is required to verify land ownership, then we are better off using a centralized database instead of a blockchain such as Ethereum. Even further, if I am incorrect, and TOA on the Ethereum network does become wildly successful, it is likely that these tokens will be priced and purchased using Bitcoin as standard, further increasing the demand to hold Bitcoin
It should also be noted that ERC20 tokens are a simple specification that does not require Ethereum’s fully Turing complete programming language to create. Only multi-signature technology is required, which both Bitcoin and Ethereum have. In other words, the same token can be created on the Bitcoin network with a higher level of security.
The Bottom Line
I have become convinced that Ethereum is unlikely to capture significant long-term value in the same way as Bitcoin as they are both competing as a SOV and new form of money. Until convinced otherwise, I have become something of a Bitcoin Maximalist.
*I am not a financial adviser, and this is not financial advice