While I don't consider bitcoin as appropriate for part of your income portfolio, I find it impossible to ignore as we enter 2018.
Bitcoin started the year a little under $1,000 and as of Wednesday evening was trading around $15,400. (However, that number could be $14,000 or $18,000 by the time you read this, as the daily volatility is extremely high).
Bitcoin futures have launched on two exchanges and I believe there are over 20 applications to launch bitcoin ETFs.
Aside from bitcoin, words and names like Ethereum, LiteCoin, Bitcoin Cash, Ripple, a multitude of Initial Coin Offerings (ICOs) and even CryptoKitties have entered everyday discussions on the future of cryptocurrencies and blockchain technologies.
The Long Island Iced Tea Company (LTEA) switched its name to Long Blockchain company and issued a statement about the change of direction for the firm and had its stock price rise rapidly. Overstock.com (OSTK) has also seen its stock price rise over some cryptocurrency technology it owns.
I liked bitcoin until it topped $9,000 and have been wrong since. I continually evaluate whether I should capitulate and rejoin the bitcoin bulls, but I cannot do that right now, for reasons we will discuss later. While bitcoin falls outside of my usual fixed-income arena, it is an area I have focused on because there is no other market that has investors clamoring for information with so little unbiased help available.
Where Bitcoin Belongs
I treat bitcoin and any other cryptocurrency as a highly speculative investment. It is not a currency, not an income product, not even a stock or a commodity. It is, if you want to believe the hype, a revolutionary product due to change the world that has unlimited potential. It is certainly a bubble of monumental proportions if you want to believe the critics. I lean towards the latter, but am intrigued enough not to ignore the former. Bitcoin could only belong in a highly speculative bucket in your portfolio -- if you have one.
Real World Concern No. 1: Critical Mass
When it seems that a new cryptocurrency or ICO seems to launch every day, I wonder how any single tech will achieve the critical mass to truly change the world. There is clear evidence that investors (or speculators) are now buying cheaper cryptocurrencies, because why buy 1 bitcoin when you can buy 100 of some other coin?
Even when I look at bitcoin prices, it is unclear that much volume occurs to drive prices. Bitcoin futures have been averaging volume of just over 2,000 contracts per day, which is also about the open interest in the front contract. Basically, very few transactions and very small open interest is determining the value of a large market.
Real World Concern No. 2: Scalability
I see stories every day about how much energy is being used in the activity of mining cryptocurrencies. Every transaction in the crypto world requires computers to solve increasingly difficult problems to ensure the integrity of the blockchain. That requires immense computer power which takes energy to power the computers and to cool the computers. I am increasingly concerned that transaction speeds are too slow and energy consumption is rising too high for this to ever be scalable in the way a Visa or Mastercard payment system is.
I come back to CryptoKitties, an online game wherein players buy, trade and "breed" Ethereum-based digital cats. I don't care what price people are willing to pay for these kitties (though $100,000 seems excessive). What I do care about is that this simple game slowed down the Ethereum network to the point that higher fees had to be paid to miners to clear the backlog. On the CryptoKitties Marketplace, there are more than 88,000 of these digital cats for sale.
I am truly concerned about scalability and am discussing it with many people. Most true believers say the problems are easy to overcome and are overhyped to begin with, but that is my real-world concern that I am trying to track down. Ironically, so many of the anti-crypto people just shout "bubble" that it is difficult to have a useful discussion about real world concerns.
Real World Concern No. 3: Crackdown
Many recent price swoons in crypto can be linked to crackdowns, particularly in China and Korea. There is likely to be a more coordinated effort by governments to tighten various loopholes (tax, money laundering, etc.) that cryptocurrencies allow people to exploit.
One big bank economist who I think is very good and who I have strong reason to believe is often used as a sounding board by the Fed, has discussed FedCoin recently. Fedcoin, as it is colloquially known, would be a U.S.-backed digital cryptocurrency. A central-bank-driven system could be a threat to the various systems in place. In some ways, it would be anathema to many of the early adopters of the products, but might be welcomed by more traditional investors.
It is difficult to say what happens next, but I would expect a more concerted effort to rein in cryptocurrencies in 2018 -- which may expose their flaws as an asset for any but the most adventurous or desperate.
Betting on Adoption
I think at this stage the reason to be long bitcoin or any other cryptocurrency is that you expect adoption to increase dramatically. I didn't see that increase with futures, when it could have, and I don't think that ETFs will add as much as people think. I am happy to bet on adoption again, just not right now.
It's too risky for me right now. Too much recent hype, too many problems being exposed and bizarre price action.
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