It’s hard to ignore the Bitcoin news lately. So hard, that I just had to jump in on the conversation with my own hot take. I’ll focus on Bitcoin for this article, but the same logic presented here is equally applicable to the next hot cryptocurrency (and I’m sure there will be others).
I’m not a Bitcoin miner. Or investor. Or even an expert observer. You may think that would make me unqualified to write the opinion I’m about to write. I think it’s just the opposite.
Bitcoins started the year valued at just under $1,000 each. This past week, they came close to hitting $20,000 – a more than 20X increase in less than a year. Along the way, many early investors have become billionaires, including the villainous Winklevoss twins (remember them?), and the hype has become difficult to ignore. I’ve had very smart people make a strong pitch for why I should begin investing in Bitcoin and alternative cryptocurrencies like Ethereum.
Despite the allure and peer pressure – I don’t see Bitcoin or other cryptos as “investments”, and have resisted joining the craze for 5 reasons.
Bitcoins Don’t Create Value
Investing icon, Jack Bogle, the founder of Vanguard, recently instructed investors to “avoid Bitcoin like the plague“. Among other reasons, Bogle makes a key fundamental reason to stay away:
“You know bonds have an interest coupon, stocks have earnings and dividends, gold has nothing.”
Jack nailed it. And Warren Buffett has had similar sentiments:
“Stay away from it. It’s a mirage, basically…The idea that it has some huge intrinsic value is a joke in my view.”
Not many investors have bet against Buffett and Bogle and won – but let’s put that aside and listen to what they are saying here.
Both allude to the same fundamental principle. Stocks create value in that there are actual businesses doing the work of creating and providing goods or services that people pay for. That work, ideally, creates profit. And over time, efficiencies can grow that profit, increasing the value of the stock. But even if the valuation for that stock is lower in a few years, you could have still made money if that stock paid dividends to shareholders or bought back shares. Bitcoin doesn’t do that. Or anything. It just… exists.
We’ve Seen this Story Before
Go back and look at any bubble and burst story in history. There are a few key common characteristics you will notice:
- A few early investors get rich.
- Hype ensues and investors proclaim that this is the next big thing.
- The flocks deliriously rush in and those buying far exceeds those selling – causing prices to skyrocket in a short period of time and a bubble to form.
- Volatility spikes.
- Early Investors cash out, causing a decline.
- The flock gets fearful, and starts rushing out.
- Bubble bursts and prices crash – usually followed by a long period where the “get rich quickers” eventually exit, after losing a good chunk of their original investment.
The two big recent historical examples are with tech stocks in the year 2000:
And the housing market in 2006:
A more recent and relevant example that we saw before is none other than… Bitcoin? Yep. Bitcoin believers don’t like it when you point out that we’ve seen this bubble and burst story before with Bitcoin.
On November 25, 2013, Bitcoin hit a price of $975.49. That was a more than 10X increase from just a few months earlier. The hype bubble burst, and a year later, it was worth roughly a third of that. It wouldn’t reach those heights again until 2017.
But I’m sure THIS time is different, right?
Limited Supply Does Not Mean Indefinite Price Increases
One common argument that I hear from proponents of Bitcoin and other cryptos, is that there is a limited supply of coins, so demand is going to continue to outweigh supply, and therefore, the value will keep going up. “Better get in early on”, they proclaim!
For starters, this is not true. Contrary to popular belief, Bitcoins are still being created. And while “rumor has it” that Bitcoins will no longer be created once 21 million are mined and in circulation, what assurances do we truly have that the rules won’t change and additional Bitcoins won’t be added?
Beyond that, it’s also worth noting that stocks also have a limited supply. And nowhere does that guarantee that a stock will only go up in value.
Cryptocurrencies are Not Much Different than Other Currencies – But are Less Regulated, More Volatile, and Uninsured
Two Bitcoin stories, in particular, caught my eye last week: hackers stealing $64 million in Bitcoin and Bitcoin plummeted 18%.
Over the past few years, more than 980,000 bitcoins have been stolen from exchanges, which would be worth more than $15 billion at current exchange rates. Few have been recovered, leaving most investors without any compensation.
Coinbase, one of the largest Bitcoin trading platforms, says that its online funds are insured by the FDIC. However, a full 98% of their funds (which are offline) are not insured. If they pull the plug, you’re screwed, unlike traditional investment brokerages, where funds are fully insured by the SIPC, with much stricter regulations.
Proponents of cryptocurrencies often cite that they are somehow better than other currencies, due to the decentralized nature and lack of government involvement. Perhaps someone can coherently explain to me why lack of oversight and regulation on something as critical as currency is a good thing?
On the volatility point, Bitcoin went up roughly 40% and then down 25% IN JUST THE LAST WEEK. That kind of volatility is incredibly dangerous, and it leads me to my next point…
Joining the Herd to Get in Now is Speculative Market Timing
When it comes down to it, what is Bitcoin “investing” other than speculative market timing?
Jack Bogle alluded to this as well, proclaiming:
“There is nothing to support Bitcoin except the hope that you will sell it to someone for more than you paid for it.”
We may believe in our gut that the value of Bitcoin will go up and we’ll get rich from it. But market pricing dynamics don’t care about your gut. They only care about what people are willing to buy and sell for. And when there is no intrinsic value involved, it’s anyone’s guess what that value will be a decade, year, month, or even day from now. It’s really hard to win at market timing. And if you do, it’s luck more than anything else.
No thanks. I’ll stick to passively investing in things that create value.
Thanks for this timely article, G.E. It reminds me not to get caught up in the hype (despite the fact that the stock seems to keep going up and up). I’ll continue to stick w/ blue chip stock investing. It seems to be doing better than mutual funds and the fees are really cheap.
Thanks for the article. Now less people will invest and there will be more cryptocurrencies for me. I’m in the camp that sees this as the next internet. Eventually, everyone will own some type of cryptocurrency. For every Jack Bogle or Warren Buffet, there is an Andreas Antonopolous who actually has a degree in computer science and understands what’s happening.
We totally agree. I just texted Jack a picture of the 2006 housing market and the bitcoin pricing charts, aka bubble!
We are definitely avoiding it like the plague.
You are just amazing with ur timely articles. You provide an insight that is unbiased and to the point.
Glad to be a long time subscriber.
While I would agree bitcoin (and perhaps all crypto) is in a bubble, completely writing it off is a mistake. The idea that your purchased crypto doesn’t generate value is true at this point in time, but soon there will be coins that use Proof of Stake that generate a percentage return of the network every time a block is mined. The coins also have an intrinsic value: the ability to transfer value across the world for cheap without being censored as well as removing the middleman from a lot of potential markets. Would you have invested in “databases” or “the Internet” if you could have? This is the same opportunity as that and why I would listen to voices in technology as opposed to voices in finance for investment advice. Times are changing.
This is my point; this is a technology far more than it is an investment.
There certainly is the investment factor, but focusing on what major investment figureheads say (“it’s a bubble!” etc.) and ignoring what major technology figureheads say (‘it’s revolutionary and not going anywhere’).
Bill Gates, Elon Musk, Richard Branson… and countless other major tech or innovation-oriented figureheads have come out in support of Bitcoin and the technology it represents. But we should just ignore that?
I suppose we should also ignore the number of major global corporations that have joined the Enterprise Ethereum Alliance, representing their interest in employing blockchain-based solutions to solve common problems:
Ex: Intel, Deloitte, Cisco, BP, JP Morgan, Microsoft…
As a computer scientist, I have to disagree with how you are framing your argument. You are mostly focusing on purely price of the crypto and not it’s actual benefits. The value crypto can have is several fold. First, you can send any amount anywhere in the world for practically nothing and don’t have to worry about going through banks. Platforms like Ethereum are not meant to be a currency (although work well as one), but are poised to be the future of financial transactions and provability on the web. For instance, look at crypto kitties, the latest sensational hype about digital cats. As stupid as I think it is, people are able to purchase these digital cats from a smart contract on the blockchain and prove without a doubt they are the singular owner, which then makes for an interesting application. Think of the applications with stocks, trading cards, or other needs for verification without a third party. That’s where the true innovation will be. To me it’s almost as if we were able to have a chance to invest in The Internet as a whole, now we actually have a chance to invest in it’s next evolution directly.
All that being said, investing purely for price speculation without understanding the underlying technology is very dangerous, and I believe Bitcoin no longer fulfills the original goal. Thanks for the great advice G.E.! Trade and hodl carefully.
I’m making this post not to argue, but because I like this blog and I’d hate for this topic go unfairly represented.
The short of my point here: Cryptocurrencies aren’t going anywhere, and so long as that’s true I think it’s a poor investment strategy to ignore it.
That Bitcoin chart you referenced in this very post even supports my case. That first major crash was caused by one of the largest Bitcoin exchanges getting hacked and going permanently offline, which controlled more than 80% of the total worldwide Bitcoin volume at the time. Despite this crash, it didn’t kill Bitcoin. The currency recovered in full and beyond it a relatively paltry 4 years later. Can you even imagine that ever happening with any other type of investment/commodity/etc.? There is no comparable example in history.
And will it crash again? I’m certain it will. But will it come back again? I’m 100% certain it also will.
This is akin to what was caused by Napster, where once the peer-to-peer based sharing spread you simply couldn’t stop it. Corporate and government entities thought they could stop the sharing/pirating of music, and they massively failed and have largely given up. Cryptocurrencies have become infinitely more prolific, valuable, and by their nature near impossible to limit/control.
All of this being the case, I think it’s a poor and borderline ignorant investment strategy to completely ignore Bitcoin and other cryptocurrencies. I’m by no means saying that you should be switching your 401k over to Bitcoin, or life savings, etc. But I do think it wise to add it as small part of your portfolio as part of a broader diversification strategy. Or, likewise, similar to investing in single stocks; only if you have extra money you can afford to lose.
Also, while I have the utmost respect for Jack Bogle and Warren Buffet, quoting those two on this topic is about as meaningful as quoting Elon Musk on how he feels about Index Investing. Can Elon make a statement on it, because he has lots of money and probably knows a thing or two about it? Sure. But is it an industry he’s intimately familiar with and well-studied in? No. Bitcoin and other cryptocurrencies aren’t as much as an ‘investment’ as they represent a technology.
I don’t like to generalize, but most of the investment and banking heads I’ve seen speak on this topic are overtly hostile towards cryptocurrencies – and of course they are, because it’s not easily understood and represents major disruption to their industry. But why would you quote and trust their opinions first on 1) a technology they don’t understand that 2) negatively impacts their industry? Over say, just about any major technology company that is now investing in cryptocurrencies and blockchain technology. Is this really a topic you’d ignore tech figureheads on, but promote banking/investing heads as if they understand it more and can remain unbiased?
Lastly, and before this gets too long I’ll leave it at this last point: the idea that “Bitcoins [or any cryptos] don’t create any value” represents a misunderstanding of how this technology works and the potential it has for the future. I’m frankly a little disappointed, as I’ve followed you here for years and you usually research a topic thoroughly before posting on it. While I’ll give you that yes, Bitcoins themselves don’t create *as much* value, it’s silly to say they represent none. I mean, just sit back here for a minute and look at the bigger picture: you truly believe that more than $200 BILLION has flooded into something that creates absolutely no value or benefit for its investors? Does that really sound right to you?
In places like China – where more Bitcoin trading happens than any other country – it provides protection and anonymity from a government that rules its citizens at levels bordering a dictatorship. This is DESPITE China banning the major exchanges recently – and look, Bitcoin trading in the country is still among the highest! This is what I was talking about earlier; Bitcoin can’t be stopped or controlled by any central entity, and in places where these central entities are not trusted by the people (China’s government, or the USA’s banks), they create value for the person owning them. Bitcoin’s creation and initial success is *directly* linked to the USA’s housing & banking crash of 2009. This is relatively common knowledge.
Other cryptocurrencies like Ethereum represent even more disrupting concepts. Smart Contracts, such as those employed by the Ethereum blockchain, can change and eliminate entire industries of ‘middle men.’ Anything that can be translated into small amount of code (aka, nearly everything), could be handled and secured automatically within a blockchain with no need for a third party; whether ordering an Uber, filing an insurance claim, or donating to a relief effort. All with no need for Uber (and 90% of their employees), a claims representative, or a central non-profit entity with 40% in administration costs.
The future is going the way of the internet and technology, and cryptocurrencies absolutely are part of this in some way. We’d all be doing a massive disservice to ourselves to completely ignore it.
Again, you should always invest responsibly, but completing ignoring or avoiding an entire portion of the market is bad strategy.
A perfect example of the technological potential this can represent, AND value (just from today’s news): https://www.coindesk.com/ubs-launch-live-ethereum-platform-barclays-credit-suisse/amp/
The funny part is if this was a silicone valley start-up revolutionizing payment and verification systems for some of the biggest global players (and that’s just one of many applications), no one would doubt the value or legitimacy. But because blockchain technology is so new and widely misunderstood, and you have investors making headlines shouting “bubble!” this and “tulips!” that – who again don’t understand the technology – we’re stuck having this conversations.
I again will say, it’s not going anywhere anytime soon. Sticking our heads in the dirt here is only a disservice to ourselves.
Annnnnd now ETH is up over 25% from yesterday.
Greaaaaaaat – we’re firmly at step #4 in my bubble-to-burst cycle. Nothing like losing and gaining 25% of your “investment” in 2-days. Great for blood pressure and anxiety pharma manufacturers, that is.
Silicone Valley Start-up sees a 25% gain after an announced partnership with the several of the biggest global banking institutions. Seems perfectly normal, no?
Ethereum, a cryptocurrency running on a revolutionary blockchain platform, sees a 25% gain after an announced partnership with the several of the biggest global banking institutions. But, this is somehow ridiculous? You don’t see the disconnect?
And yes, it’s volatile. I don’t think anyone here – or anywhere – has ever recommended going in with anything more than you can stand to lose. I believe that, by your own advice, you should never be investing enough money to cause ‘blood pressure and anxiety issues’ in a single asset (whether that’s a stock, or a crypto coin). Which I also reiterated in my own post. So I’m not sure who you’re arguing that point against?
The S&P500 “recovered in full and beyond it a relatively paltry 4 years later” from its lowest point during the recession in Jan., 2009 to its previous peak seen in Sept., 2007, and since then has only gone up.
Hm? Yes? I’m not sure what your point is in pointing that out, though?
If you’re comparing the S&P500 recovery to the Bitcoin recovery, as a statement for or (more likely) against Bitcoin… then I don’t think that really works here.
The first fault of which being it’s an apples and oranges thing, again as the S&P is purely an investment vehicle and once again Bitcoin and other cryptocurrencies are more a technology & concept.
Further, as I said above, that Bitcoin crash was *far* more severe. It would be like if 80% of all of the S&P 500 businesses filed bankruptcy… and then 4 years later all were back in business doing just as well as before the crash… and within a year after that were all up 2000%. There’s no way that would ever happen at the level of the S&P. It’s even unrealistic for any individual investment.
Hence, again, not very comparable situations or concepts. Nor does that necessarily say anything against Bitcoin, unless you wanted to make a statement on volatility (which, certainly). But I also believe it demonstrates resilience and the fact it isn’t going anywhere, which was my main point.
You know who else loves Bitcoin? Russia and North Korea: http://money.cnn.com/2017/12/12/technology/north-korea-bitcoin-hoard/index.html
I still haven’t heard a good argument for Bitcoin – all arguments basically amount to “people just don’t understand it”. If millions of people rush in to Bitcoin on blind faith, while not understanding how they are making money – and then they don’t – isn’t that the definition of a bubble?
Really? Is that truly a logical counter-argument?
“You know who else loves water? Nazis”
Was that a joke, or are you serious? lol
And you also actually just supported my earlier argument, for how Bitcoin creates value. As I said before, there is a direct correlation between Bitcoin popularity and countries where the citizens don’t trust their central government (or major corporate entities). This, again, is one of those ‘mythical’ values of Bitcoin; it is decentralized, and cannot be influenced or controlled by any one entity. This might border along conspiracy theory territory for some, but the fact is that history is littered with examples of “absolute power corrupts absolutely”; governments corruption, corporate greed, banking collusion/bailouts/runs, etc., you name it. Having holdings in Bitcoin is a way to ‘hedge’ yourself against that.
As for your second point, I absolutely believe there are a large number of people rushing into Bitcoin and other cryptocurrencies without properly understanding them. But that fact alone doesn’t inherently dismiss the possibility that there are good reasons.
My point has also never been to argue that this isn’t a bubble, or that there won’t be a crash. My point has always simply been that “ignoring it like the plague” indefinitely is a poor decision.
My point on North Korea and Russia (and the mafia and cartel and hackers), is that you have a bunch of really shady actors pumping up Bitcoin, stealing it, holding it for ransom because of the lack of oversight. And they are doing it with great success. Some may argue decentralization and lack of oversight as a good thing. I think it’s just the opposite.
That’s a fair point, and I don’t disagree. The lack of centralization can both be a strength and a weakness.
There is no “technical support” if you make a mistake, and by nature of such it’s attracted a lot of nefarious players that attempt to take advantage of it and the people using it.
Doing all of this properly is complicated, and not user-friendly for the average person. I have a background in tech, and even I had to take it slow and research quite a bit to understand how to keep myself safe.
That said though, I would also state that – as a fact – done correctly it is one of the most secure ways to store value, at current time. The combination that represents your wallet is unique among 1,461,501,637,330,902,918,203,684,832,716,283,019,655,932,542,976 possible combinations (2^160); far beyond anything in traditional banking or investments.
“Doing all of this properly is complicated, and not user-friendly for the average person. I have a background in tech, and even I had to take it slow and research quite a bit to understand how to keep myself safe.”
– This is true. And it begs the question: why should the average reader here get involved in crypto vs. more traditional investing? I think it’s dangerous to do anything other than suggest people avoid. I understand that you firmly believe in the platform. Even if you are right about it – I’d suggest being very cautious with your enthusiasm if people can get hurt if they don’t have a computer science background and spend significant time researching and understanding all of the risks involved.
I believe that there is value in a resource that is finite in nature, is cheaply and instantly transferable, and cannot be counterfeited. Bitcoin doesn’t exactly fit #2 there, but some cryptocurrency will eventually. And ethereum isn’t really a crypto, it’s really just the world’s biggest (and slowest) computer that can’t lie without everyone knowing it.
I don’t think the fact that people enter into Bitcoin with no idea what it is or how it works makes it a bubble. I could say something similar to my index funds: I don’t really know what individual stocks vanguard has purchased, but I hope they are good. However, the high speed increase of money entering in crypto right now almost guarantees that we are in a bubble,.
I think a very large majority of people completely ignore the fact that when they buy bitcoin, they are directly supporting the illegal trade of drugs, arms, and humans including children. When I am buying a security I like to know that my investment doesn’t make it easier for those activities to take place. And yes it could be argued that regulated currencies finance those industries just as well, but they certainly are not specifically designed to aid them by avoiding regulation. Regardless of the value, over or under, it will always be an absolutely horrendous investment until a far stronger level of regulatory body can move in to insure these funds are not being used for such transactions.