I remember watching the Bitcoin bull market of 2017 and thinking that people buying then were crazy. After all, I’d spent time in 2016 and early 2017 researching cryptocurrencies and determining that the risk wasn’t worth it with all things considered. It was completely baffling to me watching the price increase 20x after that. Comparisons to Tulips were abundant and seemed appropriate to me considering the circumstances. I still recall the combination of relief and vindication I felt watching the bubble burst and the price fall sharply in early 2018. Part of me wanted to believe that was the end of the Bitcoin story, but I knew there was some potential in Bitcoin based on the research I’d done. With some of the kinks worked out, potential worries abated, and the right economic backdrop, it could be huge and potentially the answer to the increasingly loose monetary policy seen around the world.
Fast forward to April 2020: with many of my concerns around the legitimacy of Bitcoin alleviated, equities rallying as GDP dropped, treasury yields approaching zero, quantitative easing turned up to 11, and rushed fiscal stimulus, I couldn’t help but to change my opinion and start moving some of my assets into Bitcoin while simultaneously taking a deeper dive into the narrative behind it. Over the months as my knowledge and understanding grew, so did my allocation. At this point, I’m up over 300% on my initial investment back in April, while still adding to my position, and I am more bullish than ever. In this article I want to lay out my reasoning and the thesis driving my bullishness regarding Bitcoin after spending so much time learning about it this year. To best understand this, I think it’s appropriate to start with my concerns from 2017 that caused me to stay away from it back then and why they’ve almost all been resolved at this point.
What if Bitcoin is Just a Big Scam?
In 2017 I had some major concerns. Some of them stemmed from lack of understanding and lack of adequate research on my part, but some were legitimate. To be fair, I had much less free time on my hands back then since it was before I reached financial independence. Let’s look at each of the concerns separately and how my thinking has evolved on them over the past 4 years.
It’s all just made up computer code, it can’t have any actual value.
I’ve heard this same sentiment expressed countless times over the past few years. It wasn’t until I learned more about the history of money and stores of value that this became less of a concern for me. Throughout human history we’ve used a variety of mediums for exchange and stores of value, and all of them have their flaws. Generally, money has certain properties including: durability, portability, fungibility, scarcity, divisibility, and recognizability. Of these properties, scarcity is often the one that gives money or mediums of exchange their value. If something it is more scarce, then it is usually more valuable assuming that it has some use or real world application.
Scarcity is primarily why precious metals have been used as a store of value for thousands of years. Platinum is more scarce than gold, which is more scarce than silver, and we value them accordingly. Overall, precious metals are a very good medium of exchange and store of value, but they have some issues. Although they are scarce, they are continuously mined each year which gradually debases the value over time, and the rate of mining can be increased if deemed economically advantageous. For large transactions, portability becomes an issue because metals are heavy and costly to move over long distances. Divisibility becomes a big problem for small transactions. Let’s say you have only one gold coin worth $1,000 and want to buy $100 worth of groceries, how do you divide that coin to make the transaction?
With these issues in mind, paper currencies and coins were created as a medium of exchange backed by gold and silver. That solution worked pretty well for quite a while, but some of the cracks eventually led to the Bretton Woods Agreement in 1944 and eventually the world leaving the Gold Standard in 1971. Since then, fiat currencies have been backed by nothing except for the promises of the governments that issue them and their value in relation to the currencies of other governments. This gives governments around the world the ability to debase their currencies by continuously printing more while issuing debt, which is what we’ve seen happen for many years now. Amazingly, the US national debt is over $27 trillion now and increasing by the minute. We don’t yet know what will be the ultimate result of this, but at the very least it should make you skeptical of the long term viability of fiat currencies which are our current medium of exchange, and are essentially “made up,” similar to Bitcoin.
Unlike fiat currencies though, Bitcoin is programed to be scarce and ultimately deflationary. Approximately every four years, due to the halving cycles, the amount of Bitcoin “mined” per unit of time is cut in half and Bitcoin will stop being mined altogether once the total supply reaches 21 million. That scarcity and transparency in the code is a major reason that Bitcoin has value and will likely continue to appreciate in value, especially when compared to fiat currencies. It is the first potential medium of exchange or store of value that has programmed, transparent, and verifiable scarcity, which makes it a wonderful store of value.
It could be banned or outlawed.
In 2017, I was concerned that Bitcoin could be banned by various countries around the world, which would make it worthless. As noted above, I think Bitcoin is a much better alternative to fiat currencies that can be endlessly inflated, so it’s reasonable that governments see it as a threat. The more I’ve thought and learned about this, the less concerned I am about it.
First of all, governments don’t exactly have a great track record when it comes to banning things. Prime examples of this are the prohibition of alcohol in the 1920s and the more recent war on drugs in the United States. Those initiatives were massive failures. Second, the Bitcoin block chain is recorded in real time on nodes around the world in almost every country. In the absence of worldwide government coordination, individual government bans wouldn’t do anything to disrupt the network as a whole, and those impacted could easily transfer their holdings to a country without restrictions or keep it in cold storage.
It could easily be hacked.
There have been many stories of both people and exchanges being hacked and thousands of Bitcoin being stolen. That is more than a little scary and was a major deterrent for me in 2017. While this certainly has happened and may continue to happen in the future, holding Bitcoin is more secure now than ever. Exchanges have more safety precautions to prevent hacks against them or their customers. The oldest and most reputable exchanges have been around for almost a decade now and have kept their holdings safe. As an individual, you also have the option of holding your Bitcoin in cold storage which significantly decreases the risk of it being hacked and stolen. As for the network itself, it is thought to be impossible to be hacked due to its decentralized nature. While I do still have some concern regarding exchanges being hacked, I am encouraged by the measures that I am able to take as an individual to keep my holdings secure.
Bitcoin is probably the MySpace of crypto waiting for a Facebook to come along and take its place.
This was probably my biggest concern in 2017. I saw the utility for a cryptocurrency as a medium of exchange and a store of value in our increasingly digital world. I even understood the issues with fiat currencies. But I had no idea if the future would be Bitcoin, one of the other cryptocurrencies in existence, or one that had yet to be devised. I believe this was a valid concern back then as there were periods when Bitcoin was less than 50% of the total market cap of the cryptocurrencies in existence.
At this point though, I believe that Bitcoin has proven itself to be the 600lb gorilla in the world of cryptocurrencies. It has remained 50%+ of the total crypto market cap for over two years straight now, and for good reason. Although there are certainly use cases for other cryptocurrencies, Bitcoin has three things that combined make it the undisputed winner in my opinion. Those three things are scarcity, decentralization, and the first-mover advantage. Programed scarcity is vital for a store of value, decentralization is vital to be resistant to banning and attack, and the first-mover advantage is hard to overcome with a new technology like cryptocurrency. I believe it to be highly unlikely that a new cryptocurrency comes along and takes Bitcoin’s place at the top now.
It’s too difficult for the average person to buy.
It was much more difficult to buy and hold Bitcoin back in 2017. Almost all of the barriers have been removed now by apps like the CashApp and companies like Paypal. It’s now just as easy to buy Bitcoin as it is to buy equities, or even as it is to send money to a friend for that matter. There are also many more exchanges available to purchase Bitcoin as well as funds that allow buying Bitcoin into a Bitcoin fund through a brokerage or retirement account.
Bitcoin transactions are too slow and costly for them to be viable for everyday transactions.
This is true, but I now see this as a feature, not a bug in the system. Block size being limited makes it easier to keep the network secure, and I think security is the most important aspect of any store of value right up there with scarcity and the stock to flow ratio. I believe that it’s only a matter of time before a variant of the lightning network operates on top of the Bitcoin network for normal day to day transactions with the Bitcoin as the underlying asset. This is analogous to currencies backed by gold being exchanged for goods prior to the elimination of the gold standard.
The proof of work involved in mining Bitcoin uses too much energy and is unsustainable.
This is a valid criticism, but I believe this is less of a concern that it appears at first glance. Currently Bitcoin mining uses .21% of the total energy consumption in the world, which is certainly nothing to quickly dismiss considering how much energy is consumed in the world each year. An important aspect of Bitcoin mining to understand is that it is most profitable in areas where energy is the cheapest and therefore it flourishes there. This makes sense because if the cost of electricity consumed exceeds the value of the Bitcoin mined, then the operation would go bankrupt over time; and if the value of the Bitcoin mined is worth significantly more than the cost of mining it, then the operation makes huge profits.
So what causes energy to be cheap? Supply significantly exceeding demand. There are actually situations where energy is completely wasted due to it exceeding demand. A prime example of this is natural gas flaring where natural gas is burned and wasted because it’s cheaper than capturing and storing the gas. Situations like this, where the energy has a zero or even negative value, are perfect for Bitcoin miners. All it takes is an internet connection and investment in the mining equipment to turn that wasted energy into money, which is not only more efficient but better for the environment when compared with needlessly burning it. There are already companies being created that see the potential for using the wasted energy for Bitcoin mining and are moving in that direction. Increasingly over time, the energy used by Bitcoin miners will be this “free” energy that would have otherwise been wasted.
Comparing to Other Assets
With my concerns about Bitcoin sufficiently mitigated early this year, my next course of action was to consider the likelihood that it will outperform other assets in the coming years. This is what really made me excited about the prospects of my potential investment in Bitcoin, and watching things play out over the past 6-9 months have only strengthened my conviction. The Shiller PE Ratio is currently higher than any period in history besides the tech bubble in 2000. That includes 1929 before The Great Depression. Historically this does not bode well for equity indices over the next decade. The 10 year treasury yield has been on a steady downward trajectory for the past 40 years. As yields decline the value of treasuries purchased previously appreciate in value. Considering the yield has decreased from a high of almost 16% in 1981 to less than 1% currently, the last 40 years have been wonderful for bond investors. That will likely not be the case in the future as we approach the zero bound. A 1% yield doesn’t even keep up with the Federal Reserve’s 2% inflation target, and if yields increase in the future, then bonds purchased today lose value. The only hope for bonds to beat inflation in the near future is for yields to fall further; and at less than 1%, there’s not much room to fall. Real estate prices around the world, especially in the most desirable areas, are at all time highs and rising rapidly this year. The Case-Shiller Index is actually significantly higher now than it was even at the top of the housing bubble in 2008, which does not bode well for future real estate prices if history is any indication.
So with the major asset classes of stocks, bonds, and real estate all at unattractive valuations, what about keeping cash on hand to wait for better buying opportunities? This is also not an attractive option. M2 money supply has increased by an alarming $4 trillion in just the past year! That means that 20% of the current dollars in the M2 money supply were created in just the past 12 months. Does that sound like it could be potentially problematic? This currency debasement is unprecedented and is a likely culprit of asset price inflation around the world, and could potentially lead to significant increases in the Consumer Price Index if/when the velocity of money begins to increase.
How did we get here? Asset prices at all time highs, bond yields near zero, and massive currency debasement happening, all while going through a pandemic with record economic destruction and unemployment. If this seems ridiculous to you, trust me, you’re not the only one. We’re in uncharted waters here economically, so there are no real comparisons to be made historically. Are we on the verge of a 1929 style depression, or at just the beginning of the biggest asset price appreciation in history fueled by Federal Reserve monetary policy? Your guess is as good as mine.
I’m not an investing genius by any means, but in my estimation, diversification will be more vital than ever, and the only attractive options to me on a risk/reward basis are commodities, precious metals, and Bitcoin. I believe that Bitcoin will continue to be the “fastest horse” in the race out of the options above.
Why so Bullish?
It’s a combination of factors that look increasingly like a perfect storm. Some of the factors include the stock to flow model, Bitcoin reaching a market cap high enough to attract institutional attention, people becoming uneasy with worldwide quantitative easing and looking for alternatives to fiat currencies, bond yields near 0% so bond allocations looking for new homes in investment portfolios around the world, Bitcoin being much easier to buy this halving cycle making it more accessible for retail investors, and people being inside and on social media much more now meaning FOMO watching others make money on Bitcoin should be higher this cycle.
We’re at all time highs, but based on the stock to flow model and the relative strength index (RSI), if history repeats itself this cycle, we’re still near the beginning of the run. Another huge factor that differentiates this cycle from the last cycle peak in 2017 is that both companies (MicroStrategy and MassMutual) and billionaires (Paul Tudor Jones and Stanley Druckenmiller) are increasingly taking positions. This gives Bitcoin more legitimacy and opens the door for other large investors to follow suit. Sentiment has gone from Tulips at the peak in 2017 to genuine curiosity in Bitcoin as a store of value now. There is good reason for this interest as well considering Bitcoin has outperformed every other asset classes over the last 1, 5, and 10 year periods!
Amazingly, an asset allocation of 1% Bitcoin and 99% cash would have outperformed a 100% S&P 500 index asset allocation over the last 10 years and with significantly less volatility to boot. If holding a lot of cash doesn’t sound appealing, adding just a 1% allocation to Bitcoin while having the other 99% in an S&P 500 index fund would have led to over $50,000 more in a 5 year period on a $100,000 initial investment when compared to a 100% S&P 500 index portfolio. That’s massive outperformance for such a small percentage invested in Bitcoin. Will that happen in the future? Maybe not to the same degree, but with the possibility of continued massive outperformance, what’s the harm in making a small allocation to Bitcoin? If that same 1% had gone to zero, it would have barely made a dent in the total portfolio return.
How Much to Allocate?
I’ll never give specific advice on anything finance related because I’m not licensed to do so. I can explain what I did though. Early this year I started with an initial investment of 2% of my total assets in Bitcoin. As I’ve learned more and my conviction has grown, so has my allocation. I have around 20% of my total assets in crypto currently and plan to stay at this allocation with the rest of my portfolio diversified among traditionally less volatile investments. As shown in the examples above, I think 1-2% of total assets is well worth the risk with a massive drop not being too painful but a continued meteoric rise really improving total returns. As always, do your research before making any investment decision and determine your level of risk accordingly.
Is it too Late to Buy?
I started buying when the price was around $8,000/Bitcoin but have continued to buy as recently as last week (at the time of writing this it’s December 2020 with prices over $20,000). I strongly believe there’s a lot of upside potential from here, but there’s no way to be sure so it’s always a risk of course. Based on the research I’ve done, I’m estimating a price of between $60,000-$100,000/Bitcoin by the end of 2021. With that being said, I’d also put a 10-20% probability on the price being either much lower or much higher than that in the same time frame. Ultimately it’s all speculation since the only thing that determines the price is the rate of adoption and speculation. Consider your own risk tolerance and decide from there.
Where is The Best Place to Buy?
When it comes to buying Bitcoin, choosing the most reputable company is the most important thing for me. There are dozens of exchanges out there now, but with a sketchy history of exchanges being hacked, I choose to stick with one of the oldest and most reputable, Coinbase. They recently announced they’re going public soon which will make them the first publicly traded crypto exchange. The added scrutiny surrounding that decision makes me more confident in their safety measures.
Coinbase offers $10 in free Bitcoin when you sign-up for a new account and buy at least $100 worth of Bitcoin through a referral link. Here’s my referral link if you decide to sign-up and want to support the blog! They also periodically have free offers for other cryptocurrencies just for learning about them. This has amounted to an extra $60 or so for me which is a nice extra incentive.
Bitcoin has increased in value by over 250% year to date (as of 12/28/20) and by over 550% since the lows in March during the initial COVID rush to liquidity. Many of the concerns I had about investing in Bitcoin in the past have largely been resolved, and I’m very optimistic about the future for Bitcoin. I believe that it will become the store of value of choice for the digital age and has proven itself as the dominant force in the cryptocurrency world. With asset prices inflated across the board and fiat currencies being rapidly debased around the world, Bitcoin is likely to do well with this economic backdrop. Programmed scarcity, decentralization, and the first-mover advantage make Bitcoin a force to be reckoned with and very resilient to disruption. Everyone should consider at least a small percentage of their asset allocation to Bitcoin as a hedge against inflation and a call option on the future with a possible return to sound money principles. No matter what happens from here, I’ll be along for the ride!
Bitcoin and the narrative behind it is complex and nuanced. I’ve spent hundreds of hours learning about it this year alone and even with an article as long as this one, it’s impossible to cover everything. If you’re interested in learning more, here are some good places to start:
Stock to Flow Cross Asset Model
Robert Breedlove on Bitcoin Common Misconceptions
Michael Saylor SALT Talks Interview
Breedlove and Pompliano Open Letter to Ray Dalio
Raoul Pal on The Bitcoin Life Raft
***Disclaimer: I am not a licensed financial advisor and nothing contained in this article is meant to be specific advice. I’m a physical therapist by trade with a strong interest in financial independence and personal finance. I have done a significant amount of research to come to the conclusions stated above for my personal situation, but I am not offering specific financial advice. It’s important that you do your own research and if in doubt, to consult a financial advisor about your own personal situation. Invest at your own risk!
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