This factor provides the best clues about the future direction of prices.
We have long believed that all markets are interconnected. The popularity of Bitcoin and other cryptocurrencies, as well as their extreme volatility, therefore deserves the attention of all investors for their potential to influence other markets.
I must admit that I struggle with crypto, either because of my age (over 21) and / or my experience. The concept of a non-government backed coin, the value of which depends on being able to find a buyer willing to pay an arbitrary price, reminds me more of the 17th Tulip Bulb Madness than anything else. There is literally no underlying economic value for any of the cryptocurrencies, meaning their prices are purely dependent on buyer’s sentiment, which can be fickle.
This is not to say that Bitcoin et al. it will drop to zero in the short term. Some very smart people claim that the current price of Bitcoin is only a fraction of what it will be in a few years and that cryptocurrencies are meant to wipe out the existing monetary system.
It may be true, but I highly doubt it. The weight of evidence seems to work against the long-term bullish case. I remind readers that very bright people can make mistakes. A famous example is Isaac Newton (inventor of physics, computation, and bright light in general), who lost most of his wealth at the end of his life by investing in the South Sea Bubble.
The chart above suggests that while the recent decline in the price of Bitcoin has been pronounced, it has not represented unprecedented price action in the past five years.
Where does the price go from here? The lack of intrinsic value means that the price is 100% a function of investor sentiment.
The challenges of maintaining sufficient investor optimism to support prices are increasing.
In my opinion, the fatal flaw of cryptocurrencies has always been the likelihood that governments will act against them if they demonstrate noticeable popularity. No government can reasonably be expected to relinquish control of its economy by losing control of the currency. Therefore, most central banks are developing their digital currencies. In addition, many governments have decided to make disclosure and taxes on cryptocurrency holdings mandatory, depriving these digital currencies of their “ crypto ” function.
The volatility of Bitcoin et al. makes them unsuitable for commercial transactions, for which a measure of price certainty is desired. Even Elon Musk had to bow to this economic reality by overturning his decision to allow the purchase of Tesla in Bitcoin.
Bitcoin is also coming under increasing scrutiny from those who are sensitive to environmental issues. Bitcoin “mining” requires huge amounts of electricity to power computers. Many of these computers reside in China, where the dominance of power generation from fossil fuels is a major global environmental concern.
It is probably no coincidence that the popularity of Bitcoin and other digital currencies occurred during a period of remarkable optimism and investor complacency. Investor optimism was briefly affected by the stock market crash in early 2020, but rebounded stronger than ever in response to unprecedented economic support provided by central banks and governments.
One obvious conclusion (at least for me) is that Bitcoin’s price reliance on investor sentiment ties its fortunes to the same forces that drive the stock markets. If so, Bitcoin’s recent marked weakness may suggest that air is leaking from the balloon of ‘irrational exuberance’, which could herald deeper market weakness.
Investors in equities can be reassured provided that the tangible value inherent in companies provides a floor for a downturn. Bitcoin et al. they don’t have such a “floor”.
It was the lack of intrinsic value and the almost certain government action against them that kept me from playing the crypto game.
Therefore, we will not buy downside during Bitcoin’s current decline. There is no adequate purchase price without a credible estimate of the economic value of an asset.
If Bitcoin subsequently recovers ad infinitum, we will be happy for those who invested, but not unhappy with our decision. Bitcoin et al. it just doesn’t meet our risk / reward criteria. We are committed to obtaining a superior return on investment that reflects our methodology. We have long recognized that FOMO (fear of missing out) is a very destructive emotion for investors.
It will be surprising if the volatility seen in cryptocurrencies does not spread to other markets, so its behavior should be watched by all investors, not just those who invest directly.
If that interests you, you will find the Global Investment Value Charter.
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