It is very likely if you’ve been living on planet Earth for the last several months that you’ve heard of Bitcoin. And if you’ve heard of it, its most likely a story about the ‘TREMENDOUS GROWTH’ its experienced in the past year. You most likely have a friend who has bought into Bitcoin, and is encouraging all of his friends to do the same. You have probably even experienced temptation to “finally figure all of that out” yourself. Allow me to help you do so.
What a Bitcoin is
First, background. If you don’t care about its history, you can skip this part. Bitcoin is a cryptocurrency, started in 2009, that relies on blockchain technology and cryptography to control the creation and management of Bitcoins. Don’t get it? It doesn’t really matter; the take-home point is that there are a limited number of Bitcoins, and that no central government authority is in charge of their creation or distribution. The only way to create new Bitcoins is to “mine” them, which is taking a bank of computers and putting them to work computing algorithms that require a ton of processing power to solve. So why isn’t the market flooded with Bitcoin? As more Bitcoins are “found”, it becomes increasingly difficult to find more. Nowadays, an entire warehouse full of whirring computers off in China might STILL struggle to find profitability mining Bitcoin.
With that out of the way we can talk about what really is exciting about Bitcoin to 90% of us, MAKING MONEY. So why on Earth is anyone paying good USD for the stuff? Turns out, an encrypted currency not controlled by a government that allows for anonymous transactions seems like a pretty good idea to a lot of people. Its exciting, it SOUNDS like the future. If you go to Coinbase.com right now and hit 1 year, you’ll see a meteoric rise in the value of Bitcoin. The currency has appreciated in value 257% in one year ALONE. As an investor, that’s quite the ducky return.
While you’re there, do yourself a favour and click Alltime. Not as plum a story. From 2014-2016 Bitcoin was stagnant, this recent meteoric rise is clearly a release of pent-up excitement and optimism. Billions of dollars have poured into Bitcoin in the past year. Word of mouth and buzz are a LARGE part of this growth story, but there is one major piece of substance at the core. Back in April, Japan formally accepted Bitcoin as a legitimate form of currency. Russia is hot on its heels, and China is looking for ways to regulate Bitcoin payments in their homeland. Granted, all of these countries are eager to find ways to regulate and control Bitcoin (in whatever ways possible), but their recognition of the currency is what matters. They are not attempting to force people to use the Yen, Ruble, or Renminbi. So, if Bitcoin is sailing off higher with the help of renewed optimism, fresh flows of money, and net positive signals from worldwide governments, whats to stop us from diving headfirst into the fun?
Good ideas breed competition. Good ideas with low barriers to entry breed a TON of competition. Browse over to Coinmarketcap.com (a website that gives market cap, price, and other data regarding cryptocurrencies) and you will realize that there 888 different cryptocurrencies in circulation. Much like the blossoming market for marijuana stocks, the market for cryptocurrencies is rife with competition and eager, under-informed money flooding in, powered in large part by FOMO (Fear Of Missing Out).
Too much diversity
888 competitors isn’t good. 888 competitors for a product with no inherent value is a potential disaster. To understand why, we have to think back to what gives Bitcoin POTENTIAL value in the firstplace; to be used as a store of value (what normal currency does), and to be usable as a form of payment with vendors. The future of the cryptocurrencies relies on one factor above all others; WHO will accept the cryptocurrency as an actual currency. So many competitors is bad news for any one cryptocurrency doing its best to find new vendors who will accept the currency. Imagine if every state in the United States had their own individual currency. It would be wildly expensive and time-consuming for a vendor to set up a system that can accept 50 new currencies. It would be even WORSE trying to convert all of these currencies to the one they prefer, and potentially taking huge losses on exchange rates.
Acceptance by Vendors
This segues into our next problem nicely; how many vendors have actually started to accept Bitcoin and other cryptocurrencies as a form of payment? The answer is very few. There is an excellent video here of a young reporter doing her best to live off of Bitcoin in New York City for one week. Even in a heavily centralized world-class city, she struggled to pull it off. Very few restaurants and vendors support the currency, you have to rely on third party vendors heavily to use the currency properly (mostly by buying gift cards to businesses), and the places that DO accept Bitcoin often add a hefty surcharge, +40% or even worse.
Store of Value Problems and Exchange Rates
Why are vendors adding that ludicrous surcharge? Its a very rational way to protect themselves from the insane volatility in the value of Bitcoin. Bitcoin’s massive valuation swings are another problem it faces, if it wants to be taken seriously as a currency of the future. The first function of currency is as a (relatively) stable store of value, and currently Bitcoin is doing a very poor job of that. Wild swings of 10% a day, or 50% a month may be very exciting for Bitcoin investors, but it is a heart attack waiting to happen for vendors who accept the currency. The US dollar is such a widely accepted currency because when someone pays you 100 USD, you are reasonably confident that $100 will be worth roughly the same in goods and services months or even years later. Can the same be said of Bitcoin? Absolutely not.
A Probable Future
Here’s what I see coming for the market of cryptocurrencies. I think in its current state it is a fad, and that a Godly, earth-shattering reckoning will come. After a series of routs, shakeups, and most probably consolidation, we will see 5-10 cryptocurrencies emerge as survivors. Bitcoin, Etherium, Litecoin, and Ripple all currently have valuations of $44B, $34B, $24B, and $2B respectively. As such, I think they will be damaged at some point but survive into the future. We need to look out for institutional players joining the mix. As much as cryptocurrencies are an “escape from control” fantasy, their future WILL be shaped by large corporations and governments. If Bank of America accepts Bitcoin as an official currency, that’s a good sign. If Citigroup introduces the “Citidollar” cryptocurrency, expect it to jump to the Top 15 list immediately.
I think that vendors will continue to sign up to accept Bitcoin and the other large, established currencies. I think usage will become more widespread, more everyday, and that early investors in those currencies will be rewarded. The key here is selecting those cryptocurrencies which will survive into the future, and setting a time horizon of at least 10+ years. Investing in Bitcoin is accepting that you are putting money into an essentially worthless currency that exists only online, and that you may lose every dollar you put in. If you are not okay with that possibility, you should avoid Bitcoin. If you can bear these wild risks, you MAY see some pretty wild returns. Maybe. Dollar-Cost Averaging will be your friend when investing in Bitcoin. Set aside an amount of money you are okay with never seeing again, and put that into Bitcoin every month. Whether the price per coin is $3,000 or $100, put your pre-determined montly allotment in. Dollar-Cost Averaging is the only way you will be able to reduce the effect Bitcoin price volatility has on your investment.
In researching this article, I myself determined I’d put away some money into Bitcoin every month. I am almost certain I am overpaying at today’s valuations, but am taking the risk to see where it takes my money in the next 10-15 years. I will not pull that money out before then, no matter what happens. If you are interested in investing in Bitcoin/other high profile investments but lack the confidence or expertise necessary, I encourage you to contact myself or my partners. We’ll be happy to guide you along the way.
– Kiernan Easton, Private Wealth Manager and Partner at Dynamic Wealth Solutions
29777 Telegraph Rd. Suite 2417 Southfield, MI 48034