The Capital
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The Capital

We’ll Always Have Booms and Busts and Cryptocurrencies are No Different


Could Bitcoin have been manipulated by the owners of Tether (a stablecoin pegged to the dollar) and cryptocurrency exchange Bitfinex to drive the price of Bitcoin through the roof? Possibly. The U.S. Securities and Exchange Commission is already launching a criminal probe into the matter. Could the Bitcoin Cash fork have resulted in the recent massive sell offs of cryptocurrencies? Possibly. For anyone looking to divine the future from the past, my only wish to them is “good luck.” But it is entirely probable that this latest rout in dollar values of cryptocurrencies comes on the back of the general malaise in the cryptosphere, the divergence between expectation and reality if you will. So before we get into whether or not this time is really different, let’s start with examining the dotcom bubble and bust — a very similar set of circumstances which presaged our current cryptocurrency boom and bust.

When Lambo indeed…

First, let’s examine the psyche of investors who buy into both hype and fear, uncertainty and doubt or FUD if you will. During the dotcom bubble and bust (ask your grandparents), many investors (especially those late to the gravy train) poured billions of dollars from their 401k and retirement savings at the prospect of making a quick killing from the rash of IPOs of internet companies. These included search engines like (what?) and (who?)as well as (seriously?), but it also included names such as and So when investors clamored for tech stocks (to the point that all you needed to do was add a “.com” to the back of your company name and your stock would surge), the market rushed to sell them more of the stuff. But investors of this ilk are not the sort of who are pouring over whitepapers and reading balance sheets and account statements. They’re hear to make a quick buck — pure and simple. But when it becomes evident or apparent that quick dollars are not for the making, they leave en masse. When the first punters leave, they leave in their wake the anxiety which causes even more punters to leave which forms a self-perpetuating FUD cycle which draws even more oxygen out of the room. The same way that when punters clamor in to buy more and more stock, each subsequent tide of punters is afraid of missing out on “the opportunity of a lifetime.” But amidst the scores of failed companies, there were some among the crop of dotcom alumni that turned out to be the best and biggest companies of the current era. The odds though, were slim. Because there were so many hyped companies with no real business models to leverage the new technology (the internet), it wasn’t easy to find the ones with the endurance to go the distance. But investors who buy in on hype and sell on FUD are not the sort of investors who would concern themselves with these considerations anyway, their interests are far more pedestrian — “When Lambo?” and “When moon?” But had these same type of investors stayed with some of the dotcom companies (not all), they would eventually have ended up holding at least some of Amazon’s stock — a company that recently crossed the US$1 trillion market cap.

The only sock with a higher net worth than Kermit the Frog at one point.

Second, let’s study the underlying technologies that the dotcom bubble and bust was built on — the internet. The internet (like it or not) still exists. Not only does it exist, it exists in the way that some have likened to a basic human right (that may be a bit of a stretch). It has expanded the scope and scale of human access to information unprecedented in its magnitude and impact. The internet has done for the human race what the Great Library of Alexandria did for the ancient Egyptians. It opened up minds to greater learning, bridged hitherto insurmountable obstacles of time and space and generally propelled the world into an information age. The question which we need to ask ourselves is during the dotcom bubble, how much was hype and how much was potential yet realized. In the late 1990s and 2000s, it was difficult to foresee the advent of online payment processors that would eventually go on to fuel the explosion in e-commerce. It would have been challenging to predict that some two decades down, we’d be streaming live videos. Nor would it have been possible to predict with certainty the advent of social media. What the internet did do, as well as the dotcom bubble and bust, was to inspire a generation of tinkerers and thinkers, to see what could be done with the technology. The hype was oversold, but the technology was sound and it remains sound decades later. The dotcom bubble was unfortunate no doubt, let’s blame excess liquidity for that, but the technology that it wrought as well as the interest that the hype generated from an entire generation who now invested into growing that technology is priceless. Today, many of the things we take for granted, streaming video, video calls, social media, are all fruits of the dotcom bubble and bust. Had we never had that hype cycle, it is entirely possible that the human energy and ingenuity needed to create these new products would never have been drawn into the space to begin with.

Third, we look at supply and demand. What caused the dotcom bubble to burst? With technology like the internet having that much potential, it should have come as no surprise that it would also attract a good number of snake oil salesman and con artist of every stripe. With investors clamoring for more shares of dotcom companies, their meteoric rise was all but a given. Similarly, with ICOs (initial coin offerings) issuing a limited amount of tokens (artificially limited no less), the words on everyone’s lips last winter were “do you have an allocation?” Overnight cryptocurrencies and ICOs burned brighter than the North Star and sent the market cap of cryptocurrencies hurtling towards the moon peaking at US$700 billion and pushing US$1 trillion. With the ICO and cryptocurrency market so frothy, more and more plucky (shall we say opportunistic?) entrepreneurs poured into the space issuing ICOs for anything and everything. Here’s the thing, some things lend themselves well to tokenization — take games for instance, while others do not. But investors were not asking themselves whether or not these ICOs really needed a blockchain or tokenization solution, they were just trying to get in as quickly as possible. But as the laws of supply and demand dictate, eventually when the supply of ICOs rose to meet with the demand of investors, the first signs of the bubble bursting became a reality. During the heady days of the dotcom boom, companies which had no business with the internet were jumping on the bandwagon, so it was only a matter of time before the stock prices of these companies started to collapse as well. The only good thing though about such self-perpetuating hype cycles is that they eventually burn themselves out. During the dotcom boom, every company with even the vaguest internet idea was going public and investors just couldn’t get enough, just like every company with even the vaguest tokenization idea was launching an ICO. The music had to stop at some point.

To be sure, we’ve seen this all before and we’re likely to see it all again. Ever since the emergence of markets, the cycle of boom and bust are as much woven into the human DNA as the markets. We can’t help ourselves from being susceptible to periods of unbridled enthusiasm as well as falling into pits of pessimism and we’re not likely to stop.

Crowd became restless when Kanye said he wouldn’t be performing.

Which brings me now to the allegations of manipulation against Tether and Bitfinex of Bitcoin — allegations which closely resemble a 18th century bubble and bust known as the Mississippi Company. The Mississippi Company was the work of Scottish financier and convicted murderer John Law, whose economic theories were wrought somewhere between the casino and the stock market. Escaping prison (for the murder), the plucky Scotsman went to France to peddle his economic theories at the time when France was desperately in need of economic revival. Saddled with enormous public debts from the ruinous wars of Louis the XIV, France was faced with its third bankruptcy in less than a century. Copying the Dutch model of a central bank, Law reckoned that he could one-up the Dutch model by issuing paper money. The same way that Tether issues a stablecoin USDT. The idea was that paper money would revive French trade and with it French economic power. Similarly, with control of Bitfinex, Tether’s issuance of a stablecoin was designed to stimulate trade on its cryptocurrency exchange generating mountains of fees for its owners. Law’s plan for France were ingenious — consolidating public debt into a central bank meant that the onerous debts that the government owed to its people were now converted to shares in the central bank (or promissory notes) which is what the bulk of currencies are today — promissory notes — a promise to pay. For instance, there was a time when a dollar represented a promise by the U.S. government to pay the bearer of that dollar the equivalent in gold — those days are well behind us. So when USDT is issued, it’s not so much a reflection of an actual dollar backing it, but a promise to pay on that dollar. But I digress. Back to France. Because the debts of the French government were now miraculously erased and the central bank, with its paper money created, could print as much money at his Majesty’s pleasure. “Let them eat cake!”

Frederique always had trouble remembering his lines.

But you couldn’t just create money and not give the people anything to spend it on. Enter the Mississippi Company. In one of the greatest marketing spiels of the early 18th Century, John Law painted a portrait of Louisiana, a region teeming with friendly natives, waiting to trade a cornucopia of goods, a trade which the Mississippi Company had a monopoly over and which Law would use to good measure. The Mississippi Company would issue shares in its profitable venture, which French citizens could then buy, using the new found liquidity that the central bank was now issuing. It was the perfect stock market bubble. As the central bank printed more money, the price of stock in the Mississippi Company kept rising and rising and Law kept issuing more and more stock. The more it kept rising, the more people wanted it. Does that sound familiar to late winter 2017? Every sale of a USDT by Tether is not an independent action, it creates a simultaneous “buy” order for something else, in this case Bitcoin. When traders “sell” Bitcoin, they often do so into a stablecoin like Tether, especially if they’re simply locking in gains and not intending to cash out, so to speak. But back to Louisiana. Now the French were far too sophisticated with their baguettes and bouffants to be pressed into the hard work of colonization. For this, the Mississippi Company enlisted the help of hard wearing German colonists who took the arduous voyage to Louisiana to open up the trade with the new colony for the Mississippi Company. What greeted these brave colonists when they arrived was something quite different from what was promised by Law’s marketing message. In the first year alone, half of the colonists died in the swamp that is Louisiana, from every manner of virulent tropical diseases. Far from treasure and fortune, Louisiana became a name synonymous with death and suffering. And as news of this started to travel back to France, confidence (that so fickle element of all bubbles) in the stock of the Mississippi Company started to fall, prices were falling at incredible rates in the span of a day. In the streets of Paris near the offices of the Mississippi Company riots broke out. In comparison, whether or not Tether inflated the Bitcoin bubble late last year is less clear. Unlike Law’s Mississippi Company, Tether has already swapped out auditors on more than one occasion. The jury is still out on its dollar deposits, but despite that, it still trades at close to parity with the dollar — hardly the stuff of a panic sell down. Even in the midst of volatility and a hash war with Bitcoin Cash, there is no clear evidence that Tether trades like the famed Mississippi Company, but the parallels are uncanny.

So what’s the bottom line?

For one, neither the internet nor Louisiana stopped existing after their respective bubbles burst. If nothing else, the dotcom bubble laid the foundation for a new wave of more innovative and profitable companies, companies which we couldn’t live without today. Louisiana eventually became home to the world’s first over-water petroleum drilling site and that’s not all. It’s also home to a cornucopia of agricultural products, from craw fish to cotton, soybeans to sugarcane, Louisiana is one of the most resource-rich states in the U.S. and has an abundance of oil which contributes to its chemical industries. And that’s the difference between progress and hype. Progress takes time, whereas bubbles are fueled by the impatient and the opportunistic.

Today there are more cryptocurrencies than anyone knows what to do with, each representing a niche (and sometimes highly dedicated) following and purpose. That all of them survive seems highly improbable, but that the effect that they have had on pushing the blockchain and the argument for decentralized or even digital currencies forward is entirely possible. For those looking to make a quick buck, those days are behind us for cryptocurrencies, but for those willing to stay the course, there may yet be some light at the end of the tunnel. Imagine if we gave up on the internet after the dotcom bust.

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Patrick Tan

Patrick Tan

CEO & General Counsel of Novum Alpha, a quantitative digital asset trading firm with regulated funds catering to accredited and institutional investors.