This post is a follow-up to my most recent post – A quick analysis of why investing in Bitcoin is stupid
I’ve received a few comments from readers either asking for more details or disputing some of my assertions on Bitcoin.
Bitcoin is clearly in a bubble
There are a few news stories that I’ve seen in the last few days that really underscore just how ridiculous things have gotten with Bitcoin and blockchain technology in the last few days.
First, I saw an article on CNN about a tea company “pivoting” to become a technology company developing blockchain technology. Long Island Iced Tea Corp. (LTEA) announced that it was changing its name to Long Blockchain Corp. and intended to buy other companies that had developed some blockchain related technologies. The stock surged 200% on the news.
Let me clarity – a fairly unsuccessful beverage company with NO existing blockchain technology has announced that it INTENDS to invest in some sort of blockchain related technology companies at some point in the future. There were no specific details because…well, the company doesn’t know anything about blockchain or technology in general. There’s no reason to think that their ability to identify potential winners in the blockchain field is any better than anybody else’s. After all, THEY MAKE ICED TEA.
However, the mere mention of “blockchain” in the press release meant that the company’s stock nearly tripled in one day.
Similarly, India Globalization Capital (IGC) announced that they would begin using blockchain technology in their business. The stock promptly surged 135%. What does IGC do? They are a cannabis company that is working on a potential Alzheimer’s treatment using…cannabis. How does a pot company plan to use blockchain in its business? Well, the details are fuzzy, but apparently they want to “leverage its existing team of technology and healthcare experts to develop methods utilizing blockchain in areas such as product identification assurance.”
As somebody who lived through the Dot Com boom and bust I can tell you this looks eerily similar. During the DotCom boom all a company had to do was add “e” to the front their name or a “.com” to the end of their name and their stock price would soar. Today a company just needs to mention blockchain in some way. It is particularly insane when a tea company and a pot company are claiming to be getting into the blockchain business and people believe the companies are instantly worth 2-3x as much as they were the day before.
Bitcoin is not a good hedge against disaster
For many years people have thought that gold would be a viable currency in case of disaster. The thinking has been that if something truly terrible happened and our economic/banking system fell apart and society broke down, you’d need to use gold instead of paper money to buy things.
This idea is absolutely idiotic.
Let’s walk through the many, many ways this idea is dumb.
First, most people who own gold don’t own actual physical gold. Most people who own gold as a hedge against disaster own gold that’s stored by a gold company. I Owning gold that stored somewhere else is not a hedge against disaster. If shit hits the fan how will you get the gold? Why would the company holding your gold actually give it to you? They’ll just claim their records were deleted or they can’t access the gold right now or something.
But let’s say, just for the sake of argument, that you DO own actual physical gold and it’s stored in a nice strong safe at your house. Something happens (a pandemic, an EMP pulse knocks out our power grid for months, etc.) Thank goodness you have that physical gold to buy things, right?
Nope.
First, if shit hits the fan, the only things that have value will be things with practical uses. Food. Clean water. Seeds. Guns. Ammo. Solar panels. Generators with lots of fuel. These are all things that can sustain life, provide electricity for heating/cooling/cooking, etc. If shit hits the fan there won’t be any supermarket to go to. You’ll be bartering with neighbors, farmers, etc. Do you think somebody is going to accept a chunk of shiny metal in exchange for a nice warm blanket, some eggs, and a gallon of water? Hell no.
AND, even if they did agree to accept a shiny rock as payment, gold is an incredible poor way to pay for things. IF shit hits the fan AND gold somehow continues to be used as a medium of exchange, I think it’s fair to assume the price of gold will increase (which will exacerbate the problem I describe below). But, again for the sake of argument, let’s say the price of gold is unchanged. As of the end of December, 2017 the price of gold is about $1,300 per troy oz. Do you know how small a troy ounce of gold is? Here’s a great page that shows what different weights of gold look like. One ounce of gold is roughly the size of a dog tag (but a bit thicker).
So if we assume that shit has hit the fan, and that the person you’re looking to buy from is willing to accept gold, AND the price of gold is unchanged, you now need a way to give him a piece of gold that’s 1/13th the size of a dog tag. Do we assume that everybody has scales sitting around to weigh the gold? Will everybody know that specialized scales are needed, as a troy ounce of gold is different than an avoirdupois ounce used in bathroom and kitchen scales? How do you cut the gold? How can the other person be sure that it’s actually gold and not some cheaper alloy? Do we assume that everybody will instantly become a metallurgist after a disaster?
Clearly, the idea using gold to buy things in case of disaster is stupid.
AND BITCOIN IS EVEN WORSE!
After all, in order for Bitcoin to be functional you need a working power grid and a functional Internet. That would rule out most apocalyptic scenarios. But, assuming that somehow the power grid and the Internet continue to function but our banking and economic systems have collapsed, people are even LESS likely to accept imaginary electric money than gold. After all, at least gold is pretty and has a few industrial uses. Bitcoin would have zero value.
And, assuming a working power grid, a working Internet, and that both the buyer and the seller have access to some way to transfer the Bitcoins (phone, computers, etc.), you still have the issue of long transaction times and expensive transaction fees (see my previous post for more details). Given that computing power and electricity would be at a premium in case of disaster, it’s fair to assume that transaction times would be increased and transaction costs would soar. So, you decide to buy $100 of stuff from somebody, you might have to wait hours/days for the transaction to be committed and you might need to pay hundreds of dollars to get the transaction confirmed.
Bitcoin would be useless as a medium of exchange in case of disaster.
If you’re looking to hedge against disaster I’d recommend you do the following:
- Buy a bunch of freeze-dried food (I recommend the Mountain House stuff). It tastes great, is easy to prepare (just add water) and has a virtually unlimited shelf life. It takes up very little space and it’s easy to store. It’s available in small and large packages that would be easy to trade.
- Buy guns (both pistols and rifles) and lots and lots of ammo. I would expect that, in the case of disaster, you’d be able to trade a working gun for quite a bit of useful stuff. If there are no police then people will need pistols to protect themselves. Rifles can be used to hunt for food. A gun will essentially last forever if properly maintained, and ammo, if properly stored, has a shelf life in the decades.
- Buy a bunch of seeds. They are small, light, come in convenient packages that are easy to trade, and can be stored for decades. Their value would skyrocket if there was a disaster that affected our food supply system.
Food, guns, ammo, and seeds will be much more valuable than gold or Bitcoin if you’re worried about disaster.
For the record, I’m not concerned about an apocalyptic event. I have about 3 days of freeze-dried food for my family (in case of an earthquake) but I have not stockpiled guns, ammo, or seeds.
Conclusion
I’m really trying to find some sort of viable use for Bitcoin, but the more I research it the more useless it appears to be. Blockchain technology and the Bitcoin implementation in particular are clearly in a bubble and Bitcoin is useless as a store of value or medium of exchange in case of disaster.
Readers: Have you heard any other reasons to buy Bitcoin or other cryptocurrencies?
I still haven’t purchased any bitcoin, but let me tell you a story. Earlier, I was walking my dog (major metrop CA city) and again noticed several homes ($1-2M) sitting unkept, empty, despite bought recently (1-3 yrs ago). Of course, you know the answer is that these are homes bought by international investors (with /without plans on living here), with goal to be a storage of money.
What if bitcoin becomes a global assest class that is a storage of money? The velocity/amount of money is immense now and the current market cap of bitcoin is less than 10% gold. What if all these people decide they want to use bitcoin as assest whereby documented storage of money, not as functional currency? Would that convince you to buy it as an investment (of course, not based on its ‘earning power’)?
I’ll return here to read your reply.
Thanks for the question. First, I think that the purchase of a home is a much better “store of value” than Bitcoin. After all, you can value property as it produces something (rent). You can discount all future rent back to today to get a value for the house. For foreign investors, this is also a currency hedge – they own an asset that’s valued in US dollars (and produces rent in US dollars). If they live in a country with a devaluing currency (Venezuela, for example) this will be a huge benefit. Another advantage for foreign investors is that owning US property means their investment is subject to the US law. This is a huge advantage if the investor lives someplace like China where the rule-of-law is much weaker here.
I still can’t understand how/why Bitcoin would become a storage of value any more than the other 1,400 cryptocurrencies. There are already so many other things used as a “storage of value” that I can’t see why we need something new that has all the disadvantages that Bitcoin has.
The value of Bitcoin is in its inherent orthogonality to traditional financial systems.
Good diversification would include a selection of different cryptocurrencies but Bitcoin has the unique position where an estimated 1000 wealthy individuals have placed vast amounts of their personal wealth into it as a long-term, speculative, and ideological play. These “Bitcoin whales” are not just investors, they’re fan boys and would buy at the outset of any crash, preventing permanent loss of value. This interesting counter-balance acts independently of global financial markets.
The dot com bust is only comparable by its initial, rapid rise in valuation. The underlying financial system on which it’s based is still fundamentally different and I do not think can be projected to a decentralized system such as cryptocurrency. For Bitcoin to become worthless, everyone on this planet would have to agree it has no value. I believe a protracted crash would be followed by a rise as players emerge and a value is determined when equilibrium is reached.
If electricity was completely eliminated from our planet, then money and status would lose power and it would be survival of the fittest as you outlined. But if humanity is able to rise again, I’d wager it would rebuild on top of decentralized financial systems. I find it hard to believe that all records of the Bitcoin blockchain would be lost. I find it more likely that a single bank would lose all its backups, with or without bad actors.
My point is that cryptocurrencies are here to stay and has gained enough prominence to merit allocating funds as a way of diversification. I don’t advocate allocating more than .5% of your net worth and I don’t advocate active trading.
So a 1,000 “Bitcoin whales” are going to sink even more of their vast wealth to save it in the event of a downturn? Seems highly unlikely. More likely they will dump their bitcoin as fast as they can. That would just be human nature. A decentralized financial system seems like an interesting proposition, and one that will always be on the margins of a larger centralized system. The power structures that control the flow of money will see to that, plus there will always be more of a need for credit for large purchases for individuals, small business and corporations than there will be for cash. Is bitcoin going to provide loans? Who will set the interest rate? How will that rate be determined? And if it were to do all of those things, well then we have a centralized finance system all over again.
I think that’s an excellent point – if you have all your money in Bitcoin, where will the money come from to buy more Bitcoin? The people who have made lots of money in Bitcoin don’t have large cash reserves to “prop up” Bitcoin when the inevitable crash happens.
So what your saying is…”this time is different”?
Yup – this time is ALWAYS different…right up until it all blows up.
The market for my children’s artwork is also orthogonal to traditional financial systems, but that doesn’t mean the artwork has value to anybody except me and my wife.
Remember that many more than 1,000 wealthy individuals put vast amounts of personal wealth in Dot Com stocks in 1999 and in collateralized debt obligations in 2006 and those asset classes completely blew up. Just because lots of people are doing something incredibly stupid doesn’t make it any less stupid.
I don’t think that everybody needs to agree that Bitcoin has no value for it to become worthless. I think enough people need to believe that it won’t keep increasing in price. At that point people will start selling, which will cause more people to start selling, and the whole bubble will pop.
Thank you for the detailed research into Bitcoin. You’ve presented the best account I’ve ever seen on the weaknesses of Bitcoin. I now have a lot of information to give friends who are talking about it and considering investing in it. Bitcoin has always seemed ridiculous to me and when I read that bitcoins were being “stolen” from various Bitcoin dealers a couple years ago, I refused to even consider it as an “investment.”
Thanks for the kind words, and please forward this article on to your friends. If I can save even one person from losing a ton of money on Bitcoin it will have been worth the time to write.
I’ve read both of your Bitcoin posts. I’m fascinated by your analysis. I haven’t touched Bitcoin – too much money tied up in rental real estate – which is my hopeful hedge against the shit hitting the fan (although I wonder if I’ll need some guns to keep the roving bands of marauders off my properties?? Ha ha). Anyway…I do wonder…even with all of Bitcoin’s faults, will it become like Facebook? Where everyone said there were better models from the start, but somehow it was the one that caught on and became the industry leader?
I think the main difference is that Facebook has a strong network effect and Bitcoin doesn’t. That is, a social network likes Facebook becomes more and more valuable/useful as more and more people join it. There’s effectively no value in being the only person on a social network. Having one friend join your network makes it more useful to you. Have another friend makes it even more useful. Facebook had a big head start in the social networking genre and was able to get to scale fast enough that it had enough people that it was impossible for anybody else to reach its value.
Bitcoin is totally different. Any network effect for cryptocurrency would rely on people actually using the cryptocurrency as an actual currency. People would need to buy/sell things with Bitcoin. Virtually everybody who owns Bitcoin today is holding it as an “investment”. There are very few transactions happening on Bitcoin. And, when somebody DOES want to buy something with Bitcoin, they just exchange their dollars into Bitcoin and perform a transaction. If you’re going to exchange your dollars into Bitcoin you could just as easily change your dollars into Ethereum or some other cryptocurrency.
THere’s nothing special about Bitcoin that would cause it to catch on over any other cryptocurrency.
Arable land is a good doomsday hedge too. That way you have a place to use your guns, ammo and seeds.
I find the penny stocks adding blockchain to their name thing absolutely hilarious. Efficient markets my ass!
Glad to have discovered your corner of the internet. I’m enjoying the content; please keep it up.
Thanks for the kind words, and I’m happy to have another subscriber!
And you’re right – good farm land is a much better “store of value” than gold or Bitcoin. It has intrinsic value and can be used to produce useful things.