Bitcoin, the most popular form of cryptocurrency, has seen a meteoric rise in popularity since the mid-2010s. But you may be wondering what cryptocurrency actually is. Should you invest in it? How do these digital assets translate to actual dollar values? Is it worth it, or is it just pretend money?
Cryptocurrency is a broad term used to describe digital “coins” whose ownership is documented in an online database. Bitcoin is just one of thousands of cryptocurrencies, but it’s broadly accepted as the most secure and important among all of the others. Bitcoin is the first decentralized cryptocurrency, meaning it is exchanged from user to user without an overarching single administrator.
The History of Bitcoin
Bitcoin, the first cryptocurrency, began trading all the way back in 2009, but in 2017 it stormed into relevance and made headlines as a digital asset. However, back in 2017 most of the interest was driven by retail euphoria around the new shiny idea of Bitcoin. Fast forward to 2021 and Bitcoin presents as a very different asset than before. On May 11, 2020, Bitcoin celebrated its latest “halving.” This date each four years marks a point in time when the daily bitcoin being mined into existence is cut in half. It went from 1,800 coins per day entering circulation to just 900 coins per day.
This halving cycle will continue until sometime around the year 2140 when the last Bitcoin of the 21 million will come into existence. Currently, around 89% of all Bitcoin that will ever exist is already in circulation. It is estimated that only 17 million Bitcoin will ever actually make it into circulation.
This is because in the infancy of Bitcoin back in 2009-2011, many people held large quantities of coins when each one was worth less than a dollar. Unfortunately for them, many threw away hard drives or lost their passwords, which means that at least 3 million Bitcoins are lost forever.
Is Bitcoin A Passing Fad?
So, should you consider investing in Bitcoin, or will it disappear, taking all of its value with it? Time will tell, and we’ve found compelling data to argue either way. Read on to learn three reasons that Bitcoin’s value may have staying power and two considerations that could prove the opposite.
Reason #1 Bitcoin Could Maintain its Value: Scarcity
First, the halving has slowed the additional Bitcoin mined into existence each day. Now we are on an annual rate of only 1.5% more Bitcoin coming online each year. To illustrate this concept, compare Bitcoin to actual gold. Bitcoin is now far below gold’s annual growth rate. Approximately 3% more gold is mined and put in circulation each year. Gold has historically been an excellent store of value, but not easily transferable or divisible.
Bitcoin offers an even tighter supply guarantee with scarcity being a motivation to consider it as an alternative asset. Bitcoin has less than 10% of the market cap of gold, which currently stands at over $11 trillion. Bitcoin is 20-40 times more volatile than gold, so it doesn’t qualify as a traditional store of value. However, if adopted as “Digital Gold” over time, it could grow into a market cap more similar to gold, become a store of value, and in turn become a much less volatile asset.
People buying Bitcoin at these levels are expecting that global adoption will drive the market cap to a level more in line with that of gold. If that occurs, the early adopters of the asset would stand to profit as Bitcoin cements its place as a serious asset.
Reason #2: Key Investors Are Paying Attention to Bitcoin
Secondly, the pro-Bitcoin audience believes it’s emerging as a serious asset because institutions and large money managers are publicly supporting it.
Unlike 2017, this cycle has seen major financial market influencers like Elon Musk, Kevin O’Leary, Tim Draper and many others publicly allocating Bitcoin into their own portfolios. Even a few corporations such as Tesla, Square, and MicroStrategy have added Bitcoin to their corporate cash reserves.
As of today, there is over $10 billion in Bitcoin on corporate balance sheets. According to a recent survey by Gartner, around 5% of executives from large public companies are actively considering using a portion of their corporate cash reserves to be held in Bitcoin. If this does come to fruition, then the price will continue to find support from large buyers and will likely increase. This has led those in the investing community to believe that that Bitcoin, although volatile, is here to stay.
Reason #3: Public Distrust in the Actual Value of Dollars
Lastly, Bitcoin has a strong tailwind because of actions by central banks and government policy. Since the financial crisis of 2008, central bankers worldwide have taken an aggressive approach to stimulate and sustain economies. Governments are running large fiscal deficits, and there is no sign that anyone will turn the faucet down on spending.
The Federal Reserve is also offering a backstop to panic by buying government and corporate debt and keeping them on their balance sheet. The U.S. Federal Reserve has added $3.4 trillion to its own balance sheet during the past year. In 2021, the U.S. government is anticipated to run a fiscal deficit of between $4-5 trillion.
Together, these actions slowly erode trust in the value of the dollars in circulation, driving investors to look for alternatives.
Below is a chart of the M1 Money supply, showing the accelerating dilution of the U.S. dollar. This has led Bitcoin to rise to around $60,000 per coin with a market cap eclipsing $1 trillion. Investors and speculators are considering when this cycle might end and whether a bubble exists at these levels.
There are three trends in the charts that point to a continuation higher from these levels. The first chart below shows the change in liquid Bitcoin supply. Every day Bitcoins are either placed on exchanges to sell and transact or they move off the internet into digital wallets, which many refer to as “cold storage.” When coins move off of the trading exchanges, it typically means someone or a corporation intends to hold them for a more significant period of time. Even as the price has risen from $20,000 to $50,000 per coin, the liquid supply is simultaneously dropping each day since more Bitcoin is being accumulated and placed into storage.
The second chart shows a yellow line highlighting the total number of Bitcoin held on trading exchanges. That number is decreasing each day, which means the price is increasing to entice new sellers into the marketplace. Even after this large rise, the trend of coins moving off of the exchanges hasn’t slowed.
The third chart shows activity in the last month, with the 10+ large red bars representing more than 12,000 coins in each instance moving in one moment off and into similar cold storage wallets. Together, these four actions represent more than $2.5 billion moving into someone’s storage. Most analysts believe this is a large corporation allocating resources to Bitcoin, although it has yet to be disclosed who is taking this action.
So Why Wouldn’t Bitcoin Remain Valuable?
Investors who are doubtful about Bitcoin point to two metrics they believe could drop Bitcoin value from current levels.
Reason #1 Bitcoin’s Value Will Drop: Adoption Rates
First, the amount of retail investors joining the mix has increased significantly since January 2021. Often, retail entrance is a sign of a market topping. Adoption rates are increasing as PayPal and Square’s Cash App have offered Bitcoin access to the masses through a mere click of their phone. Currently, less than 2% of the world owns Bitcoin.
Reason #2: Future Tapering of Institutional Support
A second consideration that could lead Bitcoin to fall is the theory that institutional support might dry up. In the last four months, MicroStrategy, Square, and Tesla have purchased over $4 billion, supporting the market during the rise. If other major buyers – often referred to as “Whale Traders” – do not continue to buy, a decrease to the $20,000 per coin level is possible. This would be an approximately 60% loss from current levels.
So, Should You Invest in Bitcoin?
In conclusion, Bitcoin has proved it will endure as an asset class. However, it remains an extremely volatile asset with a very uncertain short-term trajectory. We refer to Bitcoin as an “Emerging Store of Value.” This means that it doesn’t store value yet since it is in its infancy and can lose much of its value. Yet, it does carry the characteristics of storing value because of its scarcity. Since Bitcoin has no functional utility at this point, the value it holds is only as strong as the belief in it by those who adopt it.
There are no cash flows to discount, no price-to-earnings ratio to consider, and no future product coming to launch. In that sense, Bitcoin can’t be analyzed like a stock investment. It is merely a pure market of buyers and sellers.
We believe Bitcoin has a bright future, yet we would not recommend allocating any money to it that is not in the speculative growth category. Investment for most should be limited to an amount that could be completely lost without threatening the cash flow or retirement plan of that individual. If a person does choose to allocate to Bitcoin, a 1-3% allocation seems most appropriate.
We’ve assisted clients with cryptocurrency investing and understand the tax considerations that come with Bitcoin. If you want to hear from our team about what Bitcoin can do for your specific investment opportunities, set up a call and let’s talk about it!
All charts sourced from Glassnode.