Bitcoin Price and Risks

Is Bitcoin a "bubble"? Can my Bitcoin investment plunge 90% tomorrow? How is Bitcoin's value determined? Is Bitcoin a ponzi scheme?

 

Is Bitcoin a Bubble?

It's time to address the elephant in the room - is Bitcoin a bubble?

Most of you would probably have first heard of Bitcoin somewhere in the end of 2017, when the price of Bitcoin infamously climbed parabolically towards 20,000USD (a 1000% gain in a matter of months), only to plunge by more than 80% in the aftermath after the bubble popped. Yes, Bitcoin was indeed in a bubble in 2017, but so was it in similar episodes back in 2011 and 2013. In fact, the 2017 crash was not even the worse crash in Bitcoin's history. Since the beginning, Bitcoin has undergone 3 cycles of parabolic price movements and crashes, but over the long term trend is clear. The price is always been in a steady and consistent upwards trend. 

 

Many people lost enormous amounts of money in that episode and have perhaps been scarred or warned against investing in Bitcoin thereafter.

 

In 2017, Bitcoin was nowhere near as well understood as it is today, and a large majority of speculators were buying Bitcoin without a clue or care of it's current value (the very definition of a price bubble). Today there are a host of metrics that can be used in determining the value of Bitcoin; in the form of price and futures analytics, mining dynamics and valuation via its scarcity. Today, there now exists fundamental valuations of Bitcoin prices, which greatly reduces the risk in investing in Bitcoin by removing price speculation. 

Patience is key when it comes to investing in Bitcoin - even if you had bought Bitcoin on any random date, the odds are strongly in your favor that simply by holding it, you would one day be profitable.

 

What are some Threats Facing Bitcoin Today?

It is important that we also have a close look at some of the risks and challenges that may potentially prevent Bitcoin from succeeding.

While the Bitcoin network and protocol has gained from strength to strength in scale and robustness since it's creation; there still exists a number of external challenges that may spoil the party. Here, we will discuss a number of the known challenges ahead:

1. Regulatory Barriers from Central Banks and Governments  - It is important to understand that because the Bitcoin network and protocol is a completely open-sourced, no one can take control or shutdown Bitcoin. In-fact, governments and central banks admitted that there is nothing they can do to stop Bitcoin. 

However, while governments cannot stop the Bitcoin network, they can take efforts to prevent or slowdown the entrance of new participants to the Bitcoin network by various methods not limited to introducing laws & prohibitions against buying cryptocurrencies, taxation on cryptocurrency assets and continuously denouncing the legitimacy of Bitcoin. Frustratingly, this has undoubtedly been a somewhat effective method to date, with the perception of Bitcoin for many to simply be a bubble or a type of scam-money on the internet. 

The role that governments and central banks have played in Bitcoin's development thus far is a huge topic, and I will write more about it in this blog post (Central Banks are Changing their Narrative on Bitcoin in a move to Adapt).

2. Network Attacks  -  As the Bitcoin blockchain is a consensus driven network, technically, a group of hackers who can manage to hack and infiltrate more than 51% of the network can gain the majority consensus and take control of the network. However, to do that, the hackers must simultaneously hack all the Bitcoin miners, nodes and network participants. Furthermore, the advantages to the hackers would be extremely limited - they would not be able to steal any money as Bitcoins are stored within individual keys nor initiate any rogue transactions. Therefore the likelihood of network attacks are low.

3. Lack of Awareness and Misinformation  -  Since Bitcoin burst into the spotlight in early 2017, major banking institutions have been one of the harshest critics and detractors of Bitcoin and its legitimacy. Not a surprise, given that the very same banks face the heaviest potential disruption from Bitcoin. "Remember how the postal service said email would never work?" Ever since, they've been on a mission to readily denounce Bitcoin, calling it a scam and a bubble. Unfortunately, with the aid of mainstream media, this has proven rather effective. Coupled with Bitcoin's price correction in early-2018, the perception of Bitcoin remains etched to majority of the world as a bubble. 

However, it is my strongest belief (and  in-fact my new life's mission!) to remain an advocate of the importance of Bitcoin to our society, and the potential that it can bring by providing us financial freedom and economic equality to all. 

The major threats to Bitcoin are discussed in more detail by Jens Schendel in this article

 

Can the Price of Bitcoin Go to Zero?

Yes. Bitcoin is a tradeable asset on a free market and like any asset on the market, it is technically possible for it to go to zero. No market is immune to this, just like how not so long ago the price crude oil futures prices unimaginably plunged to negative prices. Logically speaking, for any asset to plunge to zero, everyone who owns it must be selling it at the same time, with no buyers, something which I believe realistically will never happen to Bitcoin.

There are a couple of reasons why I believe that Bitcoin will never go to zero, or for that even below USD 3,200 (the current low of the 2017 bubble). Here are four reasons why I believe Bitcoin will never crash beyond the current lows: 

1) It has become a valuable network with vested parties.

Since Bitcoin emerged in 2009, the Bitcoin network has grown exponentially on average at a rate of 900% per year, from 1 transaction per day in 2009, to more than 300,000 transactions per day in 2020. With the growth and increase in scale, the Bitcoin network is seeing a rise  in stakeholders in the form of users, miners, developers and hodlers.

2) The cost of mining Bitcoin is always increasing, creating a "Price Floor"

In the words of Satoshi Nakamoto himself, Bitcoin mining is analogous to gold mining - hence the similar terminology. Just like how gold becomes increasingly harder and more expensive to mine due to reduced supply and increased difficulty, Bitcoin works in exactly the same way with block reward halvings and difficulty adjustments. Bitcoin mining was created to replicate the rarity and dynamics of gold. With the supply of bitcoin diminishing with time, it is expected that this will lead to a price increase. 

While the price of Bitcoin has at times strayed from its price floor temporarily, historically it has always regressed to its mean. 

Learn more about the relationship between value and scarcity in Plan B's landmark article "Modelling Bitcoin Value with Scarcity".

3) Miners and Hodlers with vested capital in Bitcoin do not just shut down overnight.

Bitcoin mining has become a lucrative and legitimate business. To mine Bitcoin, miners often have to invest hundred of thousands of capital into mining equipment, electricity contracts and real estate. 

A large percentage of Bitcoin has also been held by users and have never been sold. These users are known as "Hodlers", or Holders. The resilience of these hodlers have also proven the trust of users it the network, and as long as these hodlers continue and store their Bitcoin, we should always see a price recovery.

4) It would have gone to zero by now

Every day Bitcoin continues to exist is further proof of its survivability. Bitcoin has now been declared dead more than 380 times, but every time, it seems to come roaring back. Despite the media and banks trying to publicize the demise of Bitcoin, every day Bitcoin survives and grows in strength only increases its legitimacy as a global store of value. 

 

How is Bitcoin Valued?

Since steadily achieving mainstream limelight and recognition as an asset, analysts and investors have utilized an increasing number of ways to value the price of Bitcoin. 

While traditional asset classes such as stocks/bonds can be valued based on fundamentals such as revenue, profitability, interest yields etc; over time, a vastly different set of metrics valuing Bitcoin has emerged. Because these metrics tend to be completely different from the metrics used to value stocks/bonds, one can argue that this gives Bitcoin a certain "un-corelation" with stocks/bonds - meaning that the factors that causes stocks / bond prices to move may not necessarily impact Bitcoin.

 

In an investor's portfolio, having an uncorrelated asset can be an extremely powerful tool to have for diversification.

Here is a summary and link to expanded reading to some of the more popular and viable methods for valuable Bitcoin:

1. Modelling Bitcoin's Value with Scarcity - Analogous to Gold (which is characteristically similar to Bitcoin in scarcity), it is logical then to model Bitcoin's value in a similar way to gold, by drilling into the current supply available and cost of future production to catch a glimpse into its future value. This model has withstood the test of time thus far, and is one of the most hotly followed Bitcoin models.

Click here for a link to Plan B's article on "Modeling Bitcoin Value with Scarcity"

2. Model Based on Global Store of Value - As Bitcoin's use-case and function has gradually shifted from that as a medium of exchange (for day to day transactions) to that of a resilient store of value (similar to digital gold), increasingly so, we are seeing that models measuring global stored wealth in Bitcoin % becoming increasingly relevant and exciting. For example, with over USD 300 trillion worth of wealth in the world today, even if 1% of that were to be stored in Bitcoin, giving Bitcoin a $3 trillion market capitalization. The total supply of only  21 million Bitcoins would give each a value of close to USD 150,000 - as an estimate.

Lyn Alden is a globally regarded macro-economist and investment researcher. Check out her views on valuing Bitcoin at this article.

3. Bitcoin Cost of Production - The costs of mining Bitcoin in terms of energy /electricity costs offers a unique perspective to the minimum value of Bitcoin. The cost of mining Bitcoin is dependent on a number of factors such as energy costs (biggest factor), hardware investment, real estate, manpower and insurance. Separately, the cost and time taken to mine Bitcoin increases with time, a the difficulty of mining Bitcoin increases. 

 

A side by side analyses of Bitcoin's market price versus the electricity cost of Bitcoin mining reveals that historically, the the energy cost of has provided a "price floor" for Bitcoin. One of my favorite Bitcoin analysts, Charles Edwards, goes into great detail in his article on Bitcoin's Production Costs. 

Click here for a link to Charles Edwards's article on "Bitcoin’s Production Cost"

 
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Having a Second Look at Volatility

Bitcoin volatility is been steadily decreasing for the last ten years

The biggest doubt surrounding Bitcoin's viability of use as a global currency is it's extreme volatility. Bitcoin is undoubtedly a volatile asset, but it is important to understand that Bitcoin's volatility has significantly declined over the years, and continues to decline with increased adoption.

Here lies a chicken or the egg situation. In order for Bitcoin's volatility to decrease, we must first see an increase in market capitalization of Bitcoin. This is logical, as the volatility of a 1 trillion dollar asset is likely to be less than one with a million dollars. Imagine sailing on a mega cruise-liner versus a kayak - that is analogous to volatility. Generally, the larger the asset, the lower the volatility. However, in order for Bitcoin's market capitalization and adoption to grow, the volatility concerns must first be addressed. Therein the chicken / egg scenario.

Fortunately, it seems like there is a light to the end of this tunnel. Bitcoin's market capitalization and adoption rate has been increasing over time, and with it, predictably lower volatility rates. The video loop below creates a time stamp of Bitcoin's volatility from 2010 to 2020. 

 


 

 

Where Can I Understand More about Bitcoin Price Trends?

What if you knew a way to take the speculation out of Bitcoin investing

I used to think that investing in Bitcoin was purely speculation and because there were no traditional "Fundamental Analyses" to be done per-se, it was impossible to gauge the value of Bitcoin. All of that was before I stumbled onto the charts and analytics that LookIntoBitcoin provides. 

 

Here, you will find a host of data and on-chain analytics that describe more than what a thousand words can do. They plot into visual charts Bitcoin's price movement over the years while various analytics and metrics are layered over, indicating strong historical buy / sell zones.

LookIntoBitcoin was extremely eye-opening to me as it allowed me to see in retrospect where exactly I bought my first Bitcoin at in 2017; which also coincided with the very top of the market cycle (a huge red flag that the price was about to reverse). It also allowed me to see (more fortunately), the respective ideal buy zones which i now diligently add to my holdings at.  

Bottom line - I can quite confidently say that if you following the metrics and analytics at LookInBitcoin with faith and patience, you are unlikely to lose money in your Bitcoin investments in the long run.

I highly encourage you to visit LookIntoBitcoin.com or follow it's creater @PositiveCrypto on Twitter . 

 
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