An Op-ed on the Bitcoin Craze and Cryptocurrencies Trading
Everyone is talking about bitcoin. Your neighbour. Your cousin. Your Uber driver. Heck, even the scammer on YouTube whose ads keep popping up — “here in my garage” talking about “mentors” and “knowledge” — tries to sell you on cryptocurrencies. You know who.
According to cryptocurrency exchange, London Block Exchange, 1/3 of millennials will have an investment in cryptocurrencies by the end of 2018. And yet, when you go out there and ask investors to justify their investments, the responses seem to overwhelmingly be that “it is rallying so much I just want to get in on it”.
So, what is it with this bitcoin craze? Backers have called it the future of money; critics have given it the doomsday prophecy. I am not going to attempt to take a position on this op-ed. Rather, I am hoping to bring some perspectives to this phenomenon.
What type of asset is bitcoin from an investment standpoint?
In many ways, bitcoin is very much like every other asset class. Most bitcoin traders/investors are day-trading. There isn’t much intrinsic value to a bitcoin. Most of it is speculative, so people are only trading on “momentum”. This is in many ways similar to other markets — with the psychology of the bulls and bears; the fear and greed; the animal spirits. You can even see it in the charts.
But then what kind of asset class is it similar to, you ask? Let’s see.
Is it a currency? Absolutely not. How could bitcoin be actually usable? Currencies need to be stable. The Dollar, Yen, or Euro, won’t go up and down in value in the double-digits overnight. Cryptocurrencies are not usable. Even when firms like Amazon said they will accept bitcoin, they are going to convert it into dollar right away after the sale.
Is it a future currency? In which case you are arguing it is more similar to tech stocks / equities — that you are investing in the potential of a technology product that will become mainstream in the future. What are you buying into then? Future growth? Adoption rate? You might be able to argue that.
If you trust that cryptocurrencies will become mainstream in the future, you probably should invest based on some sort of valuation model. Like value investing, you want to invest in the cryptocurrencies that are undervalued. What kind of valuation model would you apply? Perhaps instead of using a EV/EBITDA multiple, measure Market-Cap/Adoption-Rate? Market-Cap/Active-Users? These are all possibilities.
So there are a lot of potential — like high growth tech stocks?
Hold that thought for a moment.
The biggest issue right now is that cryptocurrencies is also the perfect asset to see a speculative bubble in. Jamie Dimon, JP Morgan’s CEO, openly called bitcoin a fraud and a bubble that will eventually burst.
The same reason that people are rallying behind bitcoin — the fact that it is anonymous and unregulated — is the same reason there is a big issue. Many tactics that are illegal in other markets, such as pump and dump, are seen every day in cryptocurrencies trading. With many retail investors chasing after speculative prices, traders can do these things without the legal repercussions. These prices seen today really aren’t sustained by anything.
And then, there is also the risk of governments regulating this. Governments don’t want anonymity in the financial markets. They want oversight. They need central banks as their levers to set monetary policies. The Russian government has already banned bitcoin trading, and South Korea already has a bill in the works that will make anonymous cryptocurrencies trading illegal (https://news.bitcoin.com/south-korea-end-anonymous-crypto-trading/). All these events have triggered sell offs in the market. When will others follow suit?
What about Initial Coin Offerings (ICOs)?
Let’s cut to the chase here. Most of these cryptocurrencies don’t represent any actual value. I am a millennial myself — but these ICOs sound an awful lot like all the tech IPOs we hear about during the dot-com bubble.
Overall, Lloyd Blankfein, CEO of Goldman Sachs, puts it best.
“I won’t invest in it, but I certainly won’t discount it. Currencies or dollars as we know it used to be backed by gold in the treasury. Now it is only back by fiat (our trust in the government). After all, why is gold worth anymore than the jewelry value in gold? You can’t eat it. Maybe in the new world, it would be backed by consensus (what people think it’s worth). Maybe someday, even someone like me would be comfortable with the idea of a cryptocurrency. I don’t know if it is going to happen, but I am not going to discount the possibilities.”
A Final Word
Cryptocurrencies right now are primarily speculative vehicles. Does that mean you should or should not have them in your portfolio? I certainly wouldn’t say that. It probably isn’t a long term investment, but my views are that it is very much similar to gambling right now. If you want to take a gamble, bitcoin might be your thing. Just beware you need to prepare yourself to take that risk when one day, the bubble pops.
