Bitcoin, Tulips, Farmers and Hunters
Rarely have we witnessed such an exciting development in finance as Bitcoin. The ideas of digital currencies and digital cash have been circulating like currency themselves since Digicash in 1989. This is not a flash in the pan, it is the culmination of years of work to build a better financial, trustless, cash system.
Now Bitcoin has got a toehold in the financial fractional reserve system. There is a liquid futures market and with Defi ideas there is a flourishing repo market. It is exciting to see the Bitcoin price rally to new highs and serious investors take sizeable stakes.
However, there are also some very wise detractors, who scoff at the notion of a digital ledger that produces no income and has seemingly no intrinsic value. Mr Warren Buffet being one. The point he makes about any sort of inert commodity (even if you accept that Bitcoin’s cost of replacement represents real value) is that an investor needs to search for productive assets; to secure safety of their principal and a reasonable return.
There is no way that Bitcoin qualifies as an investment on this solid Ben Graham derived notion of an investment. Warren Buffet is right. Time to pause for thought. Worse still is the knowledge that we have seen amazing price bubbles in the past that have a corollary with Bitcoin.
The Dutch Tulip mania of the early 1600’s is a classic example. Imagine being a Dutch merchant, discovering these wonderful flowers, the bulbs and seeds of which could be easily traded during certain months, the flowers readily sold and a bright and colourful future in the offing. No wonder the bulb and seed prices were bid up and a rampant futures market developed. Apparently for a small group of speculators it ended in tears, many were caught long in a 90% price collapse and leveraged to boot.
Today the Dutch flower market is huge and worth multiple billions, so one cannot argue that the trade in Tulips was based entirely on a false premise, but rather that the valuation multiples were grossly exaggerated through leverage.
What of Bitcoin then? When will the price be at a point when there is no support for further price rises and will the price then collapse? How can we judge what a sustainable and realistic price is for Bitcoin? Are the very intelligent and wealthy soothsayers like Michael Saylor and others wrong when they suggest that Bitcoin could have a total valuation as high as that of gold reserves?
For an average investor like myself these are very difficult questions to answer. It makes sense to own productive assets, businesses that grow and distribute profits, not a computer commodity. So why on earth would I consider something as new and unproductive as Bitcoin?
Perhaps because of the bullish market, the beautiful symmetry of design, the reliable supply increase, the expensive computational proof of work that secures the ledger? These features make it appear so much more useful than gold and relatively much more attractive than the fiat currencies of the printing governments; the USA, the UK, Europe? The Tulip bubble took several decades to build to the peak and it is plausible that Bitcoin will have quite a few more years to peak as well. They are clearly not the same, but the market pattern may in retrospect look similar.
Surely Bitcoin is the future of useful money, but I cannot price it. So what to do? Look ahead 20 years and assume that Bitcoin will likely still be here and more established with 500m users not just 100m? The price will at least double from here in that case. But it could be very volatile in the meantime. The good news is that it is likely to be less correlated to the equity markets (my favoured savings vehicle) than gold, for example.
What I really like though from this premise is the idea of mining, not just hodling Bitcoin. Mining gives a downside price cushion and upside leverage compared to an outright purchase, but at the cost of time, which I can afford with the belief that there are at least several more years of Bitcoin adoption and price strength.
Compared to a Tulip speculator I want to be planting and cultivating the flowers and then selling them in the market later, patience will likely be rewarded, whereas there seems to be less certainty with pure price speculation; that is the preserve of the brave. I prefer farming to hunting.
