So… the most interesting macro move this week wasn’t from finance, but crypto.
Bitcoin and crypto prices were absolutely massacred on Wednesday night:
Timeline: Crypto Carnage
Brief summary of what’s happened this year:
8 Feb 2021 – Tesla announces it bought $1.5 billion in bitcoin, plans to accept it as payment for cars (Bitcoin: 38,000)
24 Feb 2021 – “Laser Eyes” trends on Twitter (Bitcoin: 52,000)
15 April 2021 – Coinbase IPO (Bitcoin: 63,000)
28 April 2021 – Tesla announced it sold 10% of its Bitcoin to “prove liquidity”, but also conveniently booking a profit from the sale (Bitcoin: 55,000)
13 May 2021 – Tesla suspends acceptance of Bitcoin because of energy usage. Elon Musk gets into a fight with Bitcoin Maximalists (Bitcoin: 54,000)
19 May 2021 – Bitcoin Crashes (Bitcoin: 35,000)
19 May 2021 – Elon Musk tweets “diamond hands”, marking the bottom (for now)
Interestingly, it wasn’t Elon Musk, but Coinbase’s IPO that marked the interim top in Bitcoin.
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Bitcoin – You love it or hate it
Let’s face it – with Bitcoin, you either love it, or you hate it.
But there’s a lot of truth from both sides, so we need to understand the arguments from both camps.
Bitcoin Maximalists
“A Bitcoin maximalist believes with unwavering conviction that Bitcoin is the only cryptocurrency – in fact, currency – worth caring about. Most maximalists also feel strongly that altcoins (any cryptocurrency that is not Bitcoin) are not just technically flawed, but are morally questionable.” Source
For Bitcoin Maximalists – it’s like a religion for them. Bitcoin is the only one true form of money they care about. Everything else is blasphemy.
The arguments essentially stem from a mix of:
Fixed Supply + Central Bank printing – Bitcoin’s supply is determined by an algorithm, instead of man. Only 21 million coins can be created, and the supply halves every 4 years.
In a time of rampant central bank printing, this gives Bitcoin a powerful edge as an inflation hedge – the one true form of money.
First Cryptocurrency – Bitcoin being the first crypto shouldn’t be underestimated. With crypto and money there are powerful network effects, so the more people on the network the more valuable it is.
Bitcoin being the first cryptocurrency gives it a special position within the Crypto space, akin to gold.
Bitcoin Haters
On the other hand, you have bitcoin haters.
Big names like Jamie Dimon used to be one of them, but they have since reversed their positions.
Charlie Munger came out as a Bitcoin hater recently:
“I don’t welcome a currency that’s so useful to kidnappers and extortionists,” Munger said. “I think the whole damn development is disgusting and contrary to the interests of civilization.”
The arguments here are:
Bitcoin has no intrinsic value – Just like Gold or Fiat currency, Bitcoin’s intrinsic value is zero.
It’s value comes from the fact that people choose to believe it has value. This makes it tough to value Bitcoin using traditional valuation tools.
Bitcoin is used by criminals and will be regulated – Crypto is being regulated as we speak, just look at all the AML/KYC obligations when buying crypto with fiat. But this is probably good for the space longer term, a necessary step to gain widespread adoption
Countries like Turkey or China may ban crypto, but personally I don’t see the US or EU taking such drastic steps.
Why ban it, when you can tax and regulate it? There’s so much wealth being generated for the US – just look at the Coinbase IPO.
What is Blockchain Technology?
From Marc Andreessen:
“The practical consequence […is…] for the first time, a way for one internet user to transfer a unique piece of digital property to another internet user, such that the transfer is guaranteed to be safe and secure, everyone knows that the transfer has taken place, and nobody can challenge the legitimacy of the transfer. The consequences of this breakthrough are hard to overstate.”
Blockchain uses 3 technologies, to solve a fundamental problem in commerce – the transfer of value, in a safe and verifiable manner, without going through a trusted intermediary.
Think about it this way.
You’re a merchant in the US, and you want to transfer money to someone in Singapore to buy goods. How do you go about doing it?
In all of human history, this has only been done in 2 ways: (1) by yourself, (2) by a trusted intermediary.
(1) By yourself
The earliest form of trade – you do it yourself.
You get on a boat, you go to the other guy, and you exchange the gold/money for whatever you want.
Then you bring it back.
Super inefficient.
(2) By a trusted intermediary
And then banks came along.
So the bank says, you give me the money, and I’ll give it to the other guy, for a small fee (bank transfer).
Or better yet, the bank says I’ll give the money to the other guy for you, only when you get the goods (letter of credit).
The bank becomes a trusted intermediary, allowing commerce to flow between 2 parties.
The transition from (1) to (2) unlocked massive value across the world. None of globalization would be possible without the banking system, and banks have captured massive value.
At a fundamental level, this is how commerce has been done for much of the past 500 years.
(3) Blockchain
And then blockchain came along.
The gamechanging element of Blockchain, is that it allows the same transaction to happen, without the need for a trusted intermediary.
In a blockchain world, you can buy a coin on the blockchain, send it to the guy in Singapore.
The guy in Singapore then takes the coin and exchanges it for whatever he wants.
Everybody in the world can confirm that the transaction has taken place.
There is no need for a trusted intermediary (a bank) in this chain.
If you use smart contracts (eg. Ethereum), you can even have it that the money releases automatically when a certain event happens – replacing letters of credit.
Will Blockchain’s impact rival that of banking?
In some ways, the impact of Blockchain may go on to become as big as the impact of banking itself.
It opens up a whole new world of possibilities – the ability to build decentralised systems.
I’ve talked a lot about how I think the decade we are in will be one of decentralisation, and I think blockchain will play a key role in that movement.
But – I think we are still very early.
I think where we are today for crypto, is like the internet in the 1990s.
A lot of hype, a lot of bubbles, a lot of speculators in this phase.
Did internet stocks crash along the way? Absolutely.
But did the internet go on to change the world? Hell yeah.
And using blockchain to solve money is only one potential use case. There’s no reason to stop there.
Everything from land title to objects (NFTs) to voting can potentially move to blockchain.
I think we’ve barely even tapped the true potential of this technology.
In 1995, it was hard to imagine the Ubers and Meituans that would one day rise from the internet.
Same with Blockchain.
What is the intrinsic value of Bitcoin?
How do you value something which has no intrinsic value or cashflow?
We need to reason from first principles here – so what are other asset classes with no intrinsic value or cashflow, but still have value?
Gold, and the USD.
Neither gold nor the USD has intrinsic value. Unlike rice or oil, it’s not something that can be eaten or has practical use.
The reason they have value, is because people choose to think of them as valuable.
Same with Bitcoin.
You can call it a greater fool’s theory, or you can call it an MLM. Not incorrect descriptions.
How to approach Bitcoin (or Crypto) investing?
Going back to the internet example.
Let’s say you’re investing in the Internet space in the 1990s.
You know that the internet will go on to change the world.
But you don’t know which companies will do it.
You want to buy the Amazon and Googles, but avoid the Pets.com.
How do you do it?
Crypto as VC investing
As it turns out, the VCs have figured out the answer long ago.
You just buy them all.
So the way VCs work is that they go out there, and they invest in 100 startups.
95 of them go bust.
4 of them break even or make a small return.
1 of them becomes Facebook, and delivers a 1000x return.
So that 1 investment, made up for all the losses elsewhere.
And that’s just how I see the crypto space today.
I genuinely don’t know if Bitcoin or Ether or Pancake is going to change the world.
But one of this may. And if it does, that’s a heck of a lot of upside there.
Crypto as a call option
Ray Dalio talks of Bitcoin and Crypto as a call option on a digital future, and I think he’s absolutely spot on.
These guys out there, with decentralised finance (DeFi), they’re trying to build an alternative to the existing financial system.
Sure, most of them will probably crash and burn. That’s the nature of startups.
But just maybe, one of them may go on to come up with the Blockchain version of Google, or Facebook, or Amazon.
And absolutely change the world as we know it.
And what I’ve learnt from my time investing, is to never bet against human ingenuity.
Without human ingenuity, we’ll still be cavemen without fire.
With crypto – the bet is asymmetric.
The max you can lose is the amount you put into crypto. The max you can gain if they build a new financial system, is theoretically unlimited.
As long as you position size, don’t use leverage, and put in only money you can lose, then you’ve manged your downside. And the rest is upside.
Why I bought the dip
The past week, I bought a bunch of Ether, I bought a smaller amount of Bitcoin, and I also bought some alt-coins like Cardano.
I really think of them as call options here.
The worst case is that the option expires worthless, and I lose the money I put in. No biggie, it’s a small % of my portfolio.
Best case crypto does change the world, and some of the coins go up a lot.
In other words – it’s a call option on a digital future.
But…is the bottom in?
Back to the internet example, there will be bubbles and crashes along the way.
If you bought tech in 1998 you needed to live through the Dot Com bubble and the 2000 crash.
So leverage in this space is not wise. Only put in money you can lose entirely.
Personally I’m not sure if the bottom is in yet.
Too many people buying the dip, too many HODLers.
Doesn’t feel like a capitulation.
Please don’t blindly follow me in though. I think the sell-off will take some time to play out, and rising yields in 2021 are going to crush a lot of risk assets, everything from high flying tech to crypto. We’ve already seen that in SPACs and IPOs, and it’s starting to expand to the broader market.
It’s also gotten to the point where a crypto crash could trigger a broader risk-off in the NASDAQ, given how correlated everything is today.
So yeah… watch your risk, and be patient. Even for me I only deployed a small portion of capital the past week, with plenty more to go in if (when?) the crash plays out.
How to buy Bitcoin, Ethererum, or Crypto (for Singapore Investors)
I wrote a guide on this a while back, so do check it out here.
Long story short – Coinhako if you want something simple and fuss free, Gemini or Binance if you buy bigger amounts and don’t mind more complexity.
Referral links below if you need:
Coinhako
https://www.coinhako.com/affiliations/sign_up/136968_36994574
Gemini
Get US$10 of bitcoin after you buy or sell US$100 of crypto:
Binance.com
20% rebate on trading fees:
https://www.binance.cc/en/register?ref=W9DTM4BP
Stock to flow model
An anonymous guy on the internet (Plan B) used stock to flow to value Bitcoin.
The core idea is simple – you measure the amount of stock in the world today, and you divide it by the amount of new supply each year.
For example with Gold – there are 185,000 tons, and 3,000 tons produced a year. This gives it a stock to flow of 62.
Bitcoin’s stock to flow is about 56.6.
And because Bitcoin’s supply halves every 4 years, you can plot a valuation based on this:
It’s a brilliant model, but I don’t think it is perfect.
It doesn’t take into account demand growth, and it doesn’t take into account macro factors.
But there are enough people out there who believe in it, that could easily make it self-fulfilling.
Inflation
Another big one is inflation and central bank printing. A lot of people there see crypto as the best hedge against inflation.
I don’t know if they’re right or not, this asset class just hasn’t been around long enough.
But it doesn’t matter if I believe it, what matters is whether enough people out there believe it.
Whatever the case, really interesting to watch this one play out.
Would absolutely love to hear your thoughts!
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Great article to illustrate the lay of the land! Not sure if this your first purchase or you are stacking by taking advantage of the mini crash, but welcome and love to see more insights on crypto.
I agree with the potential of the digital world, but I think recently there has been lots of hubris and speculation. The crash is partly due to leverage and many accounts were liquadated due to margin calls (source : https://www.bloomberg.com/news/articles/2021-05-20/crypto-meltdown-turbocharged-by-mix-of-leverage-and-liquidations). Your recent article on Dogecoin illustrate that very well.
Personally, I think the majority of BOTH bitcoins lovers and haters (I am refering to layman friends and associates) do NOT understand bitcoin nor fiat system and are swayed by narratives and greed. The hardcore lovers and haters in the community – most understand the concepts, and are vested due to ideology differences and vested interests. Both sides know how disruptive (or destructive, depends which side you are on) crypo can be , as you highlighted.
What is pivotal is institutions money and regulations. Crypto friendly regulatins will bring the wall of money in. Hostile regulations can stilfe it but not kill it – Bitcoin is designed to be censor-resistant.
Lastly, if you dont mind, imho,, the article will be complete if you mention you can get higher interest with your holdings, provided someone is willing to take some risk. The crypto can be put in interest bearing accounts making interest, definitely better than the savings or FD interest now in banks. Again, there is risk involved as it is not strictly your own wallet.
Thanks for sharing!
Nice comment Kenny. Not my first purchase, I’ve been in crypto for a few years now, I just haven’t gotten around to sharing views on Financial Horse all that often. Perhaps I’ll see what I can do to change it.
I agree that there’s too much speculation and leverage in this space. The crash always plays out the same way. It starts with BTC -> ETH -> Altcoins. Once the Altcoins started to moon, the end is near.
It’s very interesting because this crypto revolution is playing out the same time as we have massive money printing and the end of this long term debt cycle. Throw in political discontent arising from inequality (capital has trumped labour the past 40 years), and it’s a powerful mix for societal change. How crypto figures into all that, I don’t have the full answers, but I can see the potential.
Staking is an interesting one. With the kind of capital gains we’re seeing on the coins, staking them (and taking the risk of losing them) isn’t worth it right now. But once the speculation is taken out, I agree it could be a very attractive way to gain some additional yield.
Thanks for sharing! 🙂
Gold has value not because you can eat it, but because it’s beautiful. It’s why people make jewellery from gold, it’s why kings and queens have crowns made of gold.
USD has value not because people believe in it, but because it is an agreed medium of exchange. You must know the transition from barter to shells and gold and silver to a paper currency. Because it’s more convenient than exchanging your oxen for my computers when we want to do a trade. Even more convenient than using pieces of gold, correct?
But as such an astute investor, you would know that money is more than a means of exchange. It’s used by govts and central banks to manage monetary policy. Which as you know, ranks up there with fiscal policy in managing an economy, right?
Does bitcoin have any pretensions to be a means of exchange? Or only as a speculative asset?
Obviously bitcoin doesn’t want government control, so it can’t be used for monetary policy.
So are you only looking on this as a call option on Blockchain?
I am predicting that once crypto overtakes the USD as the currency in circulation, people will regret their choice adopting crypto when they encounter the next recession. By then, the FED will have no means to “print” crypto to save everyone.
That’s a good comment Lee. Some thoughts from me to contribute to the discussion.
1. I suppose the question is how did Gold and USD come to have the value they are perceived to hold today. You say gold has value because it is beautiful, but when the first caveman picked up gold, did he immediately find it to have value? Or did it evolve over time, as more and more cavemen were drawn to the shiny metal. Likewise with USD – There was a time when Britannia ruled the waves that US was perceived as a weak upstart. But Bretton Woods and the Arab Oil Embargo changed all that, to the point where global commerce is denominated in a currency that can be printed at will by the US. My point here is that many things in this world have no intrinsic value, but they are accorded value by society because it has use, and beyond of how circumstances evolved over time. Just look at things like political systems and legal frameworks – all figment of human imagination, yet vital to society today.
2. Monetary policy can be manipulated with all currencies that are not hard in nature. In fact, the problem with adopting BTC is that a country loses control over monetary policy, because you can’t increase/decrease supply at will. So moving to BTC is a step back. That said, I think all that talk about BTC becoming a reserve currency is rubbish, I just think the odds are incredibly low. More likely it will be the USD or a basket of sovereign currencies that governments can retain control over. But for countries with hyperinflation, and the need to peg their currency to something hard, Bitcoin opens up interesting possibilities as an alternative to gold.
3. Bitcoin itself is just a computational construct. Bitcoin doesn’t “want” anything. It is the people holding Bitcoin that create artificial narratives to boost their own agenda. So the better question is what do the people who are vested want out of Bitcoin. For now, it seems like they just want to get rich, but I wouldn’t rule out the possibility that in time to come, the goal may evolve.
4. Like I said, I don’t know how BTC will play out in the next 5 to 10 years. Which is why I see this as a long dated OTM call option on the entire crypto / digital space. Nassim Taleb’s books on Antifragile are a good read on this. It’s a way of protecting against what you don’t know, by optionality. The max downside is what you put in, but the payoff if things go well, is assymetric.
5. That said, I do agree this space is overdue for a crash, so I would save capital for when the crash happens.
Great comment though.
“Gold has value not because you can eat it, but because it’s beautiful. It’s why people make jewellery from gold, it’s why kings and queens have crowns made of gold.”
Erm.. Corrected your post below.
“Gold is beautiful BECAUSE it is perceived to have value. It’s why people make jewellery from gold, it’s why kings and queens have crowns made of gold. To show off wealth.”
You’re welcome.
That’s a very interesting way of seeing it Zach. Thanks for raising.
I suppose it goes back to the question of why was Gold originally perceived to have value. It becomes a chicken and egg, not easy to answer definitively.
And by extension, a similar logic can come to apply to Bitcoin over time.
Loving the debate here though, lots of great point raised.
Great article!
Btw, I don’t know if you intended this way, but you said “Let’s say you’re investing in the Internet space in the 1990s. …. You want to buy the Amazon and Googles, but avoid the Pets.com.” Coincidentally, we happen to have a crypto that becomes popular recently, and it is also associated with animal 🙂
Haha that’s true. I suppose in hindsight the signs of the top are pretty obvious 😉
Gold has value not simply because it is beautiful but it has practical uses in so much of the hardware that is being used to mine crypto.
I’m surprised this is such a one-sided argument being pro-crypto without talking about how inefficient crypto transactions are versus tradition electronic payment system. Would you wait at the cashier for 5 mins for your transaction to go through when it gains widespread adoption?
Not to mention the carbon footprint of the whole crypto industry.
I dont really see crypto in its current form getting widespread adoption. Like you said, transaction volume + speed + carbon footprint makes traditional centralised systems far superior.
But the technology can evolve over time, and many of these problems can be solved by upgrading the protocol / moving to proof of stake. Blockchain’s decentralisation comes at a cost to inefficiency, so there will still be a place for centralised systems if efficiency is favoured over decentralisation.
That said, if you want to build a system that is decentralised by design, and you can take a hit on efficiency, then blockchain is a very interesting place to start.
Do you really see Gold’s value throughout history coming from its use cases?
Gold/USD went up like 600% in the last 20 years, and +50% in the months following COVID.
Do you think it’s because of increased industrial usage?
Or do you think it’s the USD that lost value.
We can discuss other Gold/Fiat pairs and go back further into history if you’d like. Gold vs SGD. Gold vs Yen. Gold vs Reichsmark. Gold vs ancient Greek Drachma. Oh wait the last two are infinite now.
Gold’s value against currencies come from the devaluation of currencies. Not from the usefulness of Gold itself. Definitely not from its industrial use.
We need to stop thinking of every asset as some revenue generating company. There’s more to investing than what Warren Buffett says.
I agree with this. The beauty of some of these ecosystem / network plays, is that by the time the revenue can be seen, there is limited upside.
Take Amazon for example. It was burning cash for years and years while building up the underlying infrastructure and network effects. By the time it switched to profit making status, a bulk of the massive upside was no longer there.
Sometimes with generational leaps forward in tech a bit of imagination is required. It’s very similar to VC investing. There are a lot of duds in this space, but the one good one can deliver a huge multiple on the investment.
Question on coinhako..
When purchasing crypto on coinhako, do you actually really own the coins? or it is just a derivative like how CFDs function?
Are you able to transfer those holdings out to another wallet where you will have the public and private keys?
Yes you can transfer the coins out freely.
Just transfer them out once you buy them with SGD.
Even if you plan to trade, better to transfer the coins to Binance and trade there for much lower fees. 🙂
Thanks. Agreed with many of your views here.
My 2 cents.
No doubt that blockchain technology is here to stay and is the next evolution in the digital world we live in now.
The question is whether this protocol (BTC, ETH or whichever Altcoins) would act as a digital gold of sort, or would replace the current monetary system. The latter is what BTC maximalist is pushing for, while the former is likely to be the furthest the current authoritarians (central bankers etc.) is willing to compromise and accept.
For all the benefits of having a decentralised system that doesn’t allow manipulation of the money supply, there is still the unanswered flip side of the potential negative consequences (are we ready to allow businesses to fail and for record unemployment in a crisis?) that these maximalist are all too willing to ignore.
I also wonder if BTC will continue in this limbo between being digital gold and replacing the fiat. And if that is the case, with the incumbents firmly in place, will it even survive? With its vast energy consumption and the developed world’s crusade against climate change, in its limbo status, it is a matter of time before climate-change activists lobby governments to take it down – through banning mining, dinging of companies who own it, making it illegal to own etc. Whether any governments can take down a decentralised protocol like BTC remains to be seen, but without institutional support and mainstream usage, BTC will likely remain only as a form of digital gold – which begs the question of whether that is even necessary.
The alternative scenario would be for Ethereum or another altcoin to succeed. These come with identical blockchain’s benefits and consume a lot less energy than BTC. But they come at a cost as they are less decentralised than BTC, which kind of defeat its primary purpose to prevent currency manipulation.
That’s a good comment Mao. Agree with much of what you raised.
Personally I don’t see the US/EU govt banning it directly (unlike China). Very little to gain by doing so, and you lose all the tax revenue + information advantage + tech lead, only for the movement to go underground. What is more likely is more regulations to protect investors and for AML/KYC, which will bring it further into the realm of traditional finance (the irony).
It’s also interesting to think about how the technology evolves over time. Like you said – do we ever see Ethereum surpassing Bitcoin? The philosophy of both coins is so different (hard money vs decentralised computer), which will win out in the longer term?
I’ve very bullish on the underlying tech, but how it interacts with the regulatory, political and societal climate in the coming years – almost impossible to predict. Hence the beauty of a long dated call option. One doesn’t need to know how it plays out, only that the payout if it does, is asymmetric vs the risk being taken on (max loss being the amount invested in the coins).
hi, thank you for the recent spade of articles on crypto investing – they’ve been informative and enjoyable to read!
Can I ask you to share your thoughts about investing in cryptocurrencies directly vs buying crypto/blockchain etfs? Thanks lots!
No problem – glad you’re enjoying them!
Interesting – there’s no real Crypto/Blockchain ETF though. The only real Bitcoin ETF is Grayscale which is Canadian listed, and it consistently trades at a discount/premium to it’s underlying value, which makes it quite an inefficient way to get exposure (don’t forget the fees). Another way would be to buy stocks like Riot Blockchain or Microstrategy and gain indirect exposure to Bitcoin.
But none of them are good solutions, and I would say if one is bullish on Crypto/Blockchain, best to just invest in it directly.
When this space matures, there may be a viable ETF option. But for now, I don’t see them as good solutions for retail investors. More for institutionals who cannot invest directly in Crypto because of their mandate.
Have you considered BTCC? It is a bitcoin ETF listed in Toronto.
Yes looked at it but the fees are high, and the ETF trades at a premium/discount to underlying quite frequently.
I suppose it works for investors who dont want the hassle of buying Bitcoin directly (or who can’t), but for those who can I would still prefer to go with BTC direct.
Investing in crypto/blockchain directly also forces you to understand more about how the technology works, which to me will be crucial in the decade to come. Investing in the ETF/listed company only gets you exposure to price action, which is slightly different.