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вторник, декабрь 26, 2017

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Bitcoin futures

As of Sunday, Bitcoin futures can now be traded on both the CME and CBOE exchanges, bringing cryptocurrency speculation and Wall Street speculation together at last. In the weeks, days, and hours leading up to the launching of Bitcoin futures, interest in Bitcoin spiked, as it has before and no doubt will again. But I’m not going to talk about the effects of CME and CBOE Bitcoin futures today; I’m looking further into the future, toward Bitcoin’s ultimate fate, its ultimate future. Before we begin, you might as well forget everything you’ve been told about Bitcoin’s importance to the world and about how it will save us from evil central banks and intrusive governments. It may be true, but it’s irrelevant. Why? First, because blockchain technology, revolutionary though it may be, has already advanced beyond Bitcoin, and second, because as investors, we really only care about Bitcoin’s price. Yes, it’s true, but don’t you in the Bitcoin community go and accuse us in the investment community of “using” you. If you think about it, you’ll realize we’re using each other, and that is, after all, the basis many more or less functional relationships.

Bitcoin and certitude

I understand the principles of computer programming, having studied them long ago, but when it comes to advanced technology such as that which drives Bitcoin, I’m a civilian. I rely on those more savvy than myself to explain such things to me in terms I can understand. Of course this means certain fine points remain beyond my comprehension, but I can live with that. No one who works predicting markets in any capacity long maintains a belief in his own omniscience. I am comfortable getting a mental grip on things—those things I get a grip on at all—by trusting in those wiser than myself. Why then, should you trust me about anything, let alone Bitcoin which I just admitted I don’t fully understand? Because the certainty of ignorance is preferable by far to the illusion of certainty. You can find the illusion of certainty pretty easily in the comments section of any story about Bitcoin, from Bitcoin lovers and Bitcoin haters in roughly equal measure.

Knowledge of technology vs. knowledge of trading

Some, though not all, of those who are enamored of the technology of Bitcoin will tell you that the price of Bitcoin is going to rise forever. Here’s the problem: understanding the technology tells you nothing about what will happen to the price. Understanding markets and how they work doesn’t tell you all that much either, but it tells you more than nothing.

In spite of any and all technical differences, the way Bitcoin actually trades is very similar to the way stocks trade in electronic markets. At any given time, there are many market makers offering bid prices (to buy) and ask prices (to sell). Buys are routed to the lowest available asks, and sells are routed to the highest available bids (though imperfectly in both cases). Buying consumes available asks, driving prices higher, while selling consumes available bids, driving prices lower. In this, Bitcoin is actually more transparent to the individual investor than is stock. You can go to Bitstamp.com and check out the current bids and asks anytime; you can’t do that with stock unless you are highly placed at an investment bank.

So, bearing in mind that nothing goes up forever, let’s take a look at what actually might happen to Bitcoin instead. On a long enough timeline, we will inevitably  see one of three things: replacement, destruction, or exhaustion.

Replacement

There is a very real possibility, perhaps even a probability, that some different incarnation of blockchain technology will replace Bitcoin as the world’s preeminent cryptocurrency. It could steal Bitcoin’s crown gradually or suddenly and for any number of reasons: greater utility, lighter footprint, or some other thing that no one has even thought of yet. There are good reasons why the public might ultimately switch away from Bitcoin, and no particularly compelling reason why they shouldn’t. Bitcoin could end up being the Model-T of cryptocurrency: its significance purely historical. That said, I’m getting “replacement” out of the way first because it is sort of a cop out. It answers what might happen to Bitcoin, but leaves open the real question of how high the value of cryptocurrency is likely to go. Now on to that.

Destruction

Among cryptocurrency enthusiasts, Jamie Dimon, Chairman and CEO of JPMorgan Chase (JPM) is considered something of a villain. At the very least, the Bitcoin community would love to make him eat crow for daring to call Bitcoin a “fraud” and Bitcoin buyers “stupid.” Nevertheless, aside from those unfortunate comments, Dimon has made some pretty good points about Bitcoin, including a warning (here) that governments would “crush it one day.” There is an irony here, in that Bitcoin’s proponents know better than anyone the nature of the challenge Bitcoin presents to governmental monetary control, but they are taking the threat of a government shutdown awfully lightly. Every major government knows that Bitcoin is something it can’t control, and what a government can’t control, it sees as a threat, and what a government sees as a threat, it develops a plan to destroy.

Some people have said that the government, meaning the US government, couldn’t crush Bitcoin, or even that every government in the world couldn’t crush it, but here I’ll join Dimon in the use of that word “stupid.” Recently, cyber-detective agencies have been proving that finding the individuals behind specific Bitcoin trades is not really all that difficult, and the government doesn’t have to destroy the blockchain itself in order to crush Bitcoin—it only has to force people to stop using it. That, it could do any time, simply by throwing everyone caught using it into prison. Those buying or even holding Bitcoin are no doubt hoping that the price will rise, but the higher the price rises, the more likely government intervention becomes. When (sorry if) this happens, it will likely start in China, but it is unlikely to stop there. If the G7 were to act together, Bitcoin would surely lose nearly all of its value.

Exhaustion

Bitcoin has utility, but its utility is replaceable. It has scarcity, in theory, but its scarcity is called into question by its divisibility. What matter “how many” of a thing there are if each one is infinitely divisible? Saying there are 21 million Bitcoins is like saying there are 21 million air. Bitcoin is divisible into trillionths, so of its basic unit, there will eventually be not 21 million, as everyone says, but 21 quintillion. Now there’s a number you don’t see every day.

So, is Bitcoin a “bubble?” Well, of course it is and always will be. The only things that aren’t bubbles are things that are trading at or near their underlying value, plus a reasonable approximation, taking into account both the time value of money and an appropriate risk/reward relationship, of what that underlying value will be in the future. Bitcoin has no underlying value, ergo, it is a bubble. That doesn’t necessarily mean its price is going to fall soon or that it is going to fall rapidly when it does. Not all bubbles pop; some just deflate. On the day Bitcoin seems unlikely to go higher, whether that day be tomorrow or in ten years, people will cease to buy it, and its price will fall. It will continue to be volatile, but eventually, it will be clear that it isn’t going to be bouncing back to some previous high. That may spook people enough to send them scurrying for the exists quickly, meaning however much money you have socked away in Bitcoin, it could go to zero before you would have time to react. If you can’t live with that, you shouldn’t trade it or own it.


Personally, I own some Bitcoin and some other cryptocurrencies, but they comprise less than 5% of my portfolio. Owning them has worked out well for me so far, and I will continue to own them for one reason only—as a hedge against the possibility that they might rise sharply, leaving me out of the fun. Bitcoin might be a reasonable speculative investment for you, but only if you buy it on that same basis, and with that same level of self-awareness.

Julian Close

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