There is a lot of excitement surrounding Bitcoin and cryptocurrencies, but we would like to sound a cautionary bell against investing in them.
Our view is not that all cryptocurrencies will fail. In fact, it is quite obvious that the future of currencies is digital and “Crypto” is simply a particular way of operating a digital currency.
Our position is that cryptocurrencies sharing the same characteristics as Bitcoin will fail. Here are the top reasons.
(For more in-depth analysis on why Crypto is not suitable for long-term investors see: Crypto: Avoid this 'Greater Fool Investment Strategy' Asset Class)
There is no real value.
Some people say that fiat money (which are the normal currencies that we all use today) also do not have real value since we moved out of the gold standard. This is incorrect. Fiat money has the value of the guarantee of the government that issues it. In fact, on the Indian rupee note, you will see the words “Guaranteed by the Central Government”. In the US and Singapore dollar, you will see the words “legal tender” which means the same thing. Governments have the power to tax its people and businesses, the ability to sell public assets, issue bonds, and other ways to guarantee their currencies. These are formidable powers that give the confidence that the value of the currency will be there.
Stocks have real value because of the companies’ ability to create profits from the goods and services that they sell. Commodities have real value because industries purchase them as raw materials to use in the production of goods and services. Even gold has value as jewellery and use in some commercial production.
The only value that Bitcoin has is in somebody else willing to pay a price for it. In that sense, it is like a piece of artwork. But even a piece of artwork has the ability to beautify the space that it occupies. Bitcoin doesn’t even have that.
There is no stabilizing force.
Fiat money is heavily defended by their respective governments. Central banks regularly go into the international monetary markets to perform “market operations”, which is to buy or sell their national currencies, in order to keep them stable. Without stability, a currency does not work.
Bitcoin’s volatility makes it a terrible currency. It doesn’t matter how many vendors profess to accept it as a currency. Just think of it this way: if you have Bitcoin, will you use it to purchase anything? You won’t. You would just use fiat (normal) money. That is because you didn’t buy Bitcoin to use as a currency. You bought it as a speculative investment hoping that it would go up in value. It makes no sense for you to use real money to convert to Bitcoin and then to use it to buy something.
You wouldn’t pay in Bitcoin because your fear is that just after you pay, Bitcoin’s value goes up. For the same reason, when Bitcoin starts to slide, vendors will stop accepting them as payment, because they don’t want the value to go down the day after they accept the payment.
What is the supposed function of Bitcoin? It is to function as a currency. But without stability, it can’t do that.
So Bitcoin has no real value and no real function.
It is in competition with national currencies
Supporters of Bitcoin say that Bitcoin will replace fiat money. If this has the remotest possibility of becoming true, it means that Bitcoin is in competition with national currencies. Can we really imagine the central banks of China, the U.S. and the E.U. say “let’s cancel our currencies and just use Bitcoin, which no one can control”? This would be fatal to their monetary systems! As we have seen in recent days, China has banned Bitcoin trading and mining. Various other countries have also hinted that they might follow suit. So no, countries will not adopt Bitcoin. They will issue their own versions instead and then ban Bitcoin.
If you google ‘Central Banks Digital Currency’ (CBDCs) you will see that many central banks are planning to issue digital currencies of their own. When they do so, they are likely to behave as China did and ban Bitcoin. There cannot be a rival currency that the governments cannot control and cannot account for.
A cornered instrument
It has been estimated that 40% of Bitcoin is held by a few large “whales” (i.e. people that hold a lot of Bitcoin). This has the hallmarks of a cornered instrument. We don’t know what these whales will do eventually, but it is possible that at some point, they will be tempted to offload their holdings. Already there is some indications that whales have started selling since Bitcoin hit a high in February and March 2021.
We know that many retail investors have been attracted by the rise of Bitcoin and piled into them. With whales selling, it will be retail investors that will be left holding the empty bag.
Investing in Bitcoin is not investing in blockchain technology
There are cryptocurrencies, known as Stablecoins, which are backed up by real assets (such as the U.S. dollar) that use the very latest in blockchain technology. These coins are much more suitable to be used as currencies because they only fluctuate as much, or as little, as their underlying assets. Why aren’t they popular if the point was to invest in blockchain tech?
Nobody is buying Bitcoin because of its blockchain tech.
Bitcoin is now pure speculation
So why are prominent people buying Bitcoin if it has so many problems?
The massive amount of liquidity in the markets right now, from the monetary and fiscal policies of many governments to combat COVID-19, is an important reason for the rise in value in Bitcoin.
Some investors feel that with the dramatic increase in US dollars that have been printed in the last year, Bitcoin will have more value than US dollars or US Treasuries in the near future. This could come about as a self-fulfilling prophecy, if enough people believe in the same narrative, but there is no causative reasons for why this should be so.
What about all these brand name financial institutions issuing ETFs, structured products, and other instruments that invests in Bitcoin and other cryptos? Isn’t this a form of institutionalization of Bitcoin? Doesn’t this meant that Bitcoin has institutional acceptance?
We have two words for people who ask these questions: Lehman minibonds. In the Great Financial Crisis of 2008, venerable financial institutions like Lehman Brothers, AIG, Merrill Lynch and many others sold products that packaged sub-prime Collateral Debt Obligations (CDOs) and Credit Default Swaps (CDSs), and called them various fancy names, among them “minibonds”. As we all know, this came to a bad end, and companies like Lehman Brothers are no longer around. The lesson here is that the investment industry will sell whatever that people want to buy, and make a good fee in the process. It does not mean that these investments are worth buying.
What other reasons could there be for the surge in demand for Bitcoin in recent months? The biggest reason is really that the price has gone up. So people are rushing to buy to try and make a quick buck, or because they don’t want to be left out.
Bitcoin is a “sell”
Bitcoin started as a utopian dream of a currency that can operate free from government control, a truly democratized currency. But this dream has little likelihood of becoming a reality based on the reasons above.
For the moment, as Bitcoin is a pure digital currency, it has some advantages over fiat money, such as the speed of cross-border transactions. But these advantages are not significant enough for Bitcoin to have an important role in the global financial system. As fiat money becomes fully digital, these advantages will be eroded.
We believe that Bitcoin will go down in history as another story of speculative excess that did not end well.
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