Why Bitcoin is valuable.
This blog post attempts to answer the following question:
- Is bitcoin backed by anything? If so, what?
Being a value investor and a bitcoin proponent, I feel obligated to address this age old criticism posed to bitcoiner’s by many accredited investors, including value investing legends Warren Buffett and Charlie Munger.
The criticism I’m referring to is that of bitcoins “intrinsic value”, whether or not bitcoin is essentially worth anything.
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Firstly, I would like to address what it means for an asset to be “backed by” something. Ill do so by giving a simple example; Apple stock is “backed by” the cash flows generated by the assets that is owned by the company; therefore, the market justifies its stock market valuation based on those projected future cash flows.
When someone asks what bitcoin is backed by, they’re essentially asking,
“Why is it worth anything and what is it worth?”.
After researching bitcoin deeply, I’ve come to the following conclusion:
Bitcoin cannot be valued by “intrinsic” valuation metrics, such as discounted cash flow modelling, because it is not a business with cash flows, it is a digital commodity. It’s valued by its use cases and supply and demand dynamics – which is how the market values gold (a commodity) and which is how I will determine what bitcoin is backed by in the following points:
- Bitcoin is backed by a network of miners and nodes that provide unparalleled reliability and security, which allows users to cheaply, instantly and digitally transfer value without the need for an intermediary.
The dollar is valuable because of the security that comes with being issued and protected by the most powerful country in the world. Likewise, bitcoin is valuable because it is protected by the most secure and widespread value-transfer network in existence, without the need for a third party. It does this by creating a system of value transfer that doesn’t require trust, which is further emphasised in bitcoins supply:
- Transparent supply.
Bitcoin’s supply dynamics are entirely predictable, given the fact they’re engrained in the code. Historically the most predictable assets/currencies are the most trusted, thus, the most valuable. Logically it makes sense, people don’t want to hold currencies that inflate at unpredictable rates; hence, why more countries with less stable currencies adopt the dollar under the nose of their governments and now more and more so bitcoin. Bitcoin is also partially backed by:
- The reward incentive created by the network for miners, whom in turn invest into energy and hardware that upholds the network.
You may be thinking:
“The value of the mining equipment and energy costs is nowhere near the same as the bitcoin market cap”.
And you would be correct.
However, the same could be said for the mining of gold, the value of the equipment is nowhere near the value of the end product, otherwise there would not be much of an incentive to keep mining gold and bitcoin, which allows for the assets’ existence.
Overall, Bitcoin doesn’t need assets with cash flows or a government to “back it”. It will continue to serve its purpose for the rest of time. Bitcoin doesn’t care.
Until next time.
Stay vigilant.
~ Victor
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