The mainstream view is that bitcoin is heading for a humbling. Nonsense, says Charlie Morris this is the greatest bubble in history. Get involved.
It's been a strong year for markets in general. But one asset class crypotcurrencies has beaten all others hands down. Bitcoin started 2017 priced at $1,000 a coin. Now it is nearly $20,000. It doesn't stop there bitcoin owners also received what are effectively "bonus shares" via "forks" in the blockchain (see below). These included bitcoin cash in July (now worth $1,800) and bitcoin gold in October (another $300). In other words, bitcoin holders saw the value of their initial stakes triple from spin-offs alone, and that's before the near 20-fold rise in the price. The combined value of all bitcoins in circulation is now $350bn.
Beyond bitcoin there was even more excitement with surges in the likes of ethereum, ripple and litecoin. A further $250bn of value has been created, and that's before we even get to the energetic start-ups funding themselves with initial coin offerings (ICOs). In aggregate, this new digital space accounts for more than $600bn. Even those who saw this boom coming have been amazed at its speed.
Subscribe to MoneyWeek
Subscribe to MoneyWeek today and get your first six magazine issues absolutely FREE
The madness of crowds is one of the great mysteries of markets. In 2015, investors shunned bitcoins at $200. Now they are scrambling over each other to secure them at a price that is nearly 100 times higher. And you can't say that bitcoin came out of nowhere it has been at the centre of various media storms over the past few years.
First, there was the collapse of the digital exchange Mt Gox, which saw the loss of 850,000 bitcoins, which today would be worth around $16bn. Then there was the hunt for bitcoin's creator, Satoshi Nakamoto, whose identity remains a mystery. And let's not forget the closure of the Silk Road, a site on the so-called dark net where you could buy all sorts of illicit goods.In short, bitcoin has been famous for a long time.
But perhaps the penny hadn't quite dropped back then. People heard the negatives through the scandals, but it took a little longer for them to acknowledge the positives. The exchange of value over the internet is an extremely powerful idea. Even PayPal founder Peter Thiel was amazed at the frenzy that faced him when his payment-processing company raised capital during the internet boom 18 years ago. And back then, PayPal was merely transferring standard "fiat" money as a service. There was no suggestion that an online dollar might one day be worth more than an "offline" dollar.
Bitcoin has been going through a similar evolution and discovery process. It first touched $1,000 more than four years ago. At the time, the mainstream spoke of a bubble that would collapse. They were right, it did. The following 14 months saw bitcoin's price slide by more than 80% during a savage bear market.
However, financial historians understand that bear markets are a cleansing process whereby assets are transferred from weak hands to strong ones, and in the process, bad businesses (such as Mt Gox) fail and are replaced by newer, better models in the Schumpeterian tradition of "creative destruction". Was mich nicht umbringt, macht mich strker. (What doesn't kill you, makes you stronger.)
Between 2014 and 2016, the years between bitcoin first hitting $1,000 and then regaining the level, the bitcoin network stabilised and routinely saw $100m of value change hands each day. That stability paved the way for new funding rounds in the likes of the ethereum project. This was a new design of blockchain that would allow applications to be built on top a sort of programmable money. New ideas kept coming, confidence returned and by 2016, bitcoin's trend turned bullish again.
The surge in ICOs
The first ICO took place in 2014; this year has seen a record $3bn raised in new offerings. Some of these funds went towards new coins and others to businesses developing new applications. The top fund-raising was filecoin, which amassed $257m from investors who paid in bitcoin and ether. Filecoin is building a network which enables people to share their spare disk space in the cloud.
Given that most of us have spare disk space and cloud storage demand is growing exponentially, this ought to become a useful service. Other prominent ICOs include those using the new "tezos" coins, which supposedly improves on the bitcoin and ethereum designs, "paragon", which promises to revolutionise the cannabis industry, and "bancor", which believes it can buck markets by generating liquidity when it isn't there.
Anyone with experience in financial markets, or even just a healthy degree of scepticism, ought to be fully aware of the risks. It is obvious that most of these enterprises will fail. But equally, others will thrive. And we don't know how or why just that a central planner could never come up with such ideas, and that even if they did, the decision-making process to discover the future would move at a snail's pace. This is why speculation while rampant in the bitcoin space isn't as evil as some think. After all, as countless technology-related bubbles from railways to dotcom demonstrate, it can change the world for the better.
The risk of regulation
The bitcoin bears and sceptics focus on regulation. They wish that this new digital world could get back into its box. But, like it or not, it's here to stay. The progressive and open economies are learning to live with it, while those who fear change most are trying to hamper it. The worst regimes banned bitcoin as soon as it showed up on their radar screen. To them it was nothing more than a channel for funding terrorism and money laundering.
That the dollar, the pound and the euro are definitely involved in terrorism and money laundering doesn't seem to matter. But this heavy-handed approach says as much about a regime's attitude towards personal and financial freedoms as it does about bitcoin. The better-governed countries have taken a more liberal view.
They have allowed the experiment to continue, presumably while accepting that they'll have to clear up any mess later. The Bank of England's governor, Mark Carney, says cryptocurrencies represent a "revolution" in finance. Contrast that with the French view that the G20 group of leading countries should come together and regulate bitcoin. This isn't the first time that the UK and France have disagreed when it comes to financial innovation.
Futures and ETFs
Now bitcoin is going firmly mainstream as big investors get in on the act. This past month has seen the launch of cash-settled futures contracts from both the Chicago Mercantile Exchange and the Chicago Board of Trade. Word began to spread that this might happen in October, causing the price of bitcoin to burst through $5,000 and carry it to the present lofty levels.
The irony is that bitcoin was supposed to represent a new financial system, yet the old one is now packaging up the new one and selling it back to the old one. That's because bitcoins can't be held in your bank account, in your portfolio or in a fund. And in order to solve this, the innovators have packaged it so they can. There are already notes on bitcoin and ether listed in Sweden, but expect many more exchange-traded funds (ETFs) to follow.
So what happens next? The establishment view is to be optimistic on blockchain, yet sceptical on bitcoin. But you should never admit this in public, because they are the words of a bore. They imply that the bitcoin bubble will end in tears and that it is fruitless. But the whole point of blockchain is to exchange value over the internet and bring the world together. If it succeeds in doing that, it will change the world in ways we can't even imagine right now. Indeed, this could be the greatest bubble in history.
What happens when blockchain forks?
The blockchain is the ledger that records the transactions and ownership records for digital assets, such as bitcoin. Unlike gold bars or bank notes, bitcoins don't have serial numbers. Instead, they resemble a family tree bitcoins are validated by their provenance, just as we are by our ancestors.If you wanted to create a new coin, you would need to build a new network. Many have tried and failed, as it is hard to generate enough attention from scratch. It is therefore easier to clone bitcoin's network via a "hard fork".
That means the network provenance prior to the fork is shared by the new and the old network, as bitcoiners are entitled to the new coins whether they want them or not. The new network benefits from an instant "network effect", something that could otherwise take years to achieve.
Forking the blockchain isn't as hard as it sounds. The Bitcoin Code (BTC) is open source and can be found in a repository hosting service known as GitHub. Just help yourself to the code, make whatever changes you like such as a larger blocksize, a shorter block interval and when you'd like the fork to take place. Don't forget a catchy name such as Bitcoin Santa Claus (BSC). Then it helps to get the miners interested in BSC, but if that's too much effort, you could do it quietly by yourself, by making BSC easy to mine.
Once launched, the public and private keys for BSC will match that of the BTC network and so your new spin-off will be widely held. The irony is that if BSC caught on, your network may even become dominant and effectively take over the main bitcoin network. What a great Christmas if it did.
Charlie Morris is the chief investment officer at Newscape Capital.
Get the latest financial news, insights and expert analysis from our award-winning MoneyWeek team, to help you understand what really matters when it comes to your finances.
Charlie Morris is the chief investment officer at ByteTree Asset Management (BTAM) and founder of ByteTree.com. He has 23 years’ experience in fund management, where he has built a reputation for managing actively managed, multi-asset portfolios, with an emphasis on efficient diversification and risk management. Although well versed in traditional asset classes, Charlie is best known for his expertise in alternative assets, notably gold and Bitcoin.
In previous roles, Charlie was the head of Multi Asset at Atlantic House Fund Management until June 2020, where he managed Total Return Fund. At the time of his departure, his fund ranked 1st out of 47 funds in the Trustnet multi-asset, absolute return sector. Before that, he was the Chief Investment Officer at Newscape (2016 to 2018) and the Head of Absolute Return at HSBC Global Asset Management until (1998 to 2015) where managed $3bn of assets.
Prior to fund management, Charlie was an officer in the Grenadier Guards, British Army. Charlie is also the editor of the leading UK investment newsletter, The Fleet Street Letter (est 1938) since 2015. While not working, he can often be found somewhere on the North Sea.
Oil price stays steady as tensions in Middle East boils over
Israel attacks Iran – will the US join the conflict?
Invest in space: the final frontier for investors
5 of the world’s best stocks
The best British tech stocks from a thriving sector
How to invest in videogames – a Great British success story
How to invest in smart factories as the “fourth industrial revolution” arrives
Why now is a good time to buy diamond miners
How to invest in carbon capture and storage in the quest for net zero emissions
Why the UK's investment prospects are improving
