Cryptocurrency
I've been saying some information about Bitcoin a great deal of late. I' haven't written anything about it since I end up in an awkward spot in concurring with the predominant press: It's an air pocket. Bitcoin began as what I'd call "millennial gold" – the youthful generation view at it as their gold substitute.
Bitcoin is two things: blockchain technology and a (perceived) currency. The blockchain element of Bitcoin may have enormous future applications: It may be used for electronic contracts, voting, money transfers – and the list goes on. But there is a critical misconception about Bitcoin: Ownership of Bitcoin doesn’t give you ownership of the technology. I, without owning a single bitcoin, own as much Bitcoin technology as someone who owns a million bitcoins; that is, exactly none. It’s just like when you have $1,000 on a Visa debit card: That $1,000 doesn’t give you part ownership of the Visa network unless you own some Visa stock.
Owning Bitcoin gives you a right to … what? Digital bits?
I can understand gold bugs and the original Bitconnect aficionados. The global economy is living beyond its means and financing its lifestyle by issuing a lot of debt. Usually, this behavior would cause higher interest rates and inflation. But not when you have central banks. Our local central bankers bought this newly issued debt and brought global interest rates down to near-zero levels (and in many cases to what would have been previously unthinkable harmful levels). If you think investing today is difficult, being a parent is even more difficult.
The logical inconsistencies and internal sickness of the global economy have manifested themselves into a digital creature: Bitcoin. The core argument for Bitcoin is not much different from the case for gold: Central banks cannot print it. However, the shininess of gold has less appeal to millennials than Bitcoin does. They are not into jewelry as much as previous generations; they don’t wear watches (unless they track your heartbeat and steps). Unlike with gold, where transporting a million dollars requires an armored track and a few bodybuilders, a nearly weightless thumb drive will store a dollar or a billion dollars of Bitcoin. Gold bugs would, of course, argue that gold has a tradition that goes back centuries. To which digital millennials would probably say, gold is analog, and Bitcoin is digital. And they’d add, in today’s world the past is not a predictor of the future – Sears was around for 125 years, and now it is almost dead.
A client jokingly told me that his biggest gripe with me in 2016 and 2017 was that I didn’t buy him any Ethereum Price. I told him not so jokingly that if I bought him Ethereum, he’d be right to fire me. Maybe I’m a dinosaur; but, like gold, Ethereum Price is impossible to value. What is it worth? It has no cash flows. Is a coin worth $2, $200, or $20,000? But Wall Street strategists have already figured out how to model and value this creature. Their models sound like this: “If only X percent of the global population buys Y amount of Ethereum Price, then due to its scarcity it will be worth Z.” On the surface, these types of models bring apparent rationality and an almost professional valuation to an asset that has no inherent value. You can let your imagination run wild with X’s and Y’s, but the simple truth is this: Ethereum Price is un-valuable.
In 1997, when Coke’s valuation started to rival some dotcoms, bulls used this math: “The average consumer of Coke in developed markets drinks 296 ounces of Coke a year. These markets represent only 20% of the global population.” And then the punchline: “Can you imagine what Coke’s sales would be if only X% of the rest of the world consumed 296 ounces of Coke a year?” Somehow, the rest of the world still doesn’t consume 296 ounces of Coke. Twenty years later, Coke’s stock price is not far from where it was then – but on the way, it declined 60% and stayed there for a decade. Coke, however, was a real company with an actual product, actual sales, an authentic brand, and real tangible, dividend-producing cash flows.
If you cannot value an asset, you cannot be rational. With litecoin price at $11,000 today, it is crystal clear to me, with the benefit of hindsight, that I should have bought litecoin at 28 cents. But you only get hindsight in hindsight. Let’s buy litecoin today at $11,000. If it goes up 5% a day like a clock and gets to $110,000 – you don’t need rationality. Just buy and gloat. But what do you do if the price goes down to $8,000? You’ll probably say, “No big deal, I believe in cryptocurrencies.” What if it then goes to $5,500? Half of your hard-earned money is gone. Do you buy more? Trust me, then, the celebratory articles you are reading today will have vanished. The remarkable stories of a plumber becoming an overnight millionaire with the help of litecoin will not be gracing the social media. The moral support – which is peer pressure – that drives you to own litecoin will be gone, too.
Then you’ll be reading stories about other suckers like you who bought it at what – in hindsight – turned out to be the all-time high and who got sucked into the potential for future riches. And then Bitcoin will tumble to $2,000 and then to $100. Since you have no idea what this crypto thing is worth, there is no center of gravity to guide you or anyone else to make rational decisions. With Coke or another real business that generates actual cash flows, we can at least have an intelligent conversation about what the company is worth. We can’t have one with Bitcoin. The X times Y = Z math will be reapplied by Wall Street as it moves on to something else.
People who are buying Bitcoin today are doing it for one simple reason: FOMO – fear of missing out. Yes, this behavior is so predominant in our society that we even have an acronym for it. Bitcoin is priced today at $11,000 because the fool who bought it for $11,000 is hoping that there is another, the greater fool who will pay $12,000 for it tomorrow. This game of greater fools is not new. The Dutch played it with tulips in the 1600s– it did not end well. Americans took the game to a new level with dotcoms in the late 1990s – that round ended in tears, too. And now millennials and millennial-wannabes are playing it with Bitcoin and few hundred other competing cryptocurrencies.
The counterargument to everything I have said so far is that those dollar bills you have in your wallet or that digitally reside in your bank account are as fictional as Bitcoin. True. Currencies, like most things in our lives, are stories that we all have (mostly) unconsciously bought into. (I highly encourage you to read my favorite book of 2015: Sapiens, by Yuval Harari.) Of course, society and, even more importantly, governments have agreed that these fiat currencies are going to be the means of exchange.
Also, taxation by the government turns the dollar bill “story” into a very physical reality: If you don’t pay taxes in dollars, you go to jail. (The US government will not accept Bitcoins, gold, chunks of granite, or even British pounds).
And finally, governments tend to look at Bitcoin and other cryptocurrencies as a threat to their existence. First, governments are very particular about their monopolistic right to control and print currencies – this is how they can overpromise and underdeliver. No less important, the anonymity of cryptocurrencies makes them a heaven for tax avoiders – governments don’t like that.
The Chinese government outlawed cryptocurrencies in September 2017. Western governments are most likely not far behind. If you think banning a competitor can happen only in a dictatorial regime like China’s, think again. This can and did happen in a democracy like the US. With Executive Order 6102 in 1933, US President Franklin D. Roosevelt made it illegal for the US population to “hoard gold coin, gold bullion, or gold certificates.”
However, nothing I have written above will matter until it does.
Bitcoin may go up to $110,000 by the end of 2018 before it comes down to earth. That is how bubbles work. Just because I called it a bubble doesn’t mean it will automatically jump.
