This surge in the bitcoin price seems no more likely to endure than the last one, says Matthew Partridge.
Early this year investors thought that bitcoin, the digital currency, was on life support. After peaking at $20,000 at the end of 2017, bitcoin had slumped to $4,000 by April 2019. However, since then it has tripled to $12,800. So is this the start of a longer, more sustained rally, or is this another bubble that is just going to end up as badly for bitcoin investors as the first one?
Bitcoin’s cheerleaders argue that things have changed. In their view, the big rise during the last enormous rally was driven by ordinary investors hearing about the huge amounts of money that people were making, and then blindly buying bitcoin in the hope of getting easy money. When the price started falling, they dumped their holdings, driving it back down. But this latest appreciation has taken place on the back of a wave of interest from financial institutions and companies in digital currencies, with JP Morgan and Facebook announcing their own coins.
This is a reasonable point, but these currencies could end up hurting bitcoin as much as they help it – especially if people decide that they’d prefer to use something backed by a respected company rather than some shadowy figures, and start moving to these new digital currencies instead. After all, from Netscape to Myspace, the technology sector is littered with pioneers who lost out when a slightly better product emerged to take the crown. The same can happen in the cryptocurrency market.
Even if competitors don’t lure people away from bitcoin, the proliferation of new currencies could create a public backlash that leads to a much harsher regulatory crackdown. For example, Libra has generated a huge amount of anger, with several countries talking about banning it altogether. The European Central Bank has called Mark Zuckerberg’s proposals a “wake-up call” for financial technology regulation in general.
Watch out for the regulators
Given that bitcoin’s price has doubled since Libra was announced, if Libra runs into regulatory trouble, bitcoin’s price may well fall too. As Facebook is now in the doghouse over everything from privacy violations to election manipulation, this is likely to happen. In sum, the latest surge in the price of bitcoin seems to be a second bubble, not a sign that something has fundamentally changed in the digital currency sector.
Of course, overvalued assets can keep climbing. So I’d advise waiting until bitcoin has fallen below $10,000 before shorting it. Then short it at 25p per $1 (compared with IG Index’s minimum of 20p per $1) and cover your position if it rises above $14,000. This gives you a maximum downside of £1,000. Note, too, that the FCA is contemplating imposing additional restrictions (or even banning outright) spread betting on bitcoin, although this could take some time to be implemented.
Trading techniques: watch the auditors
When it comes to auditing, most investors doze off. No wonder: the process of checking a company’s books to see that it is not engaging in fraudulent behaviour is one of the least glamorous jobs in finance. However, it is also arguably one of the most important, and can have serious negative consequences when it is done badly.
As investors in Enron and other companies that turned out to be frauds found out the hard way, the fact that an auditor has signed off on the accounts is not necessarily a guarantee that everything is above board. But when auditors raise questions, or decide to stop auditing the firm altogether, the market tends to sit up and pay attention.
For example, a US study by Messod Beneish, Patrick Hopkins and Ivo Jansen of the Kelley School of Business in 2001 found that when an auditor resigned from examining a listed firm, the stock price fell by an average of 3% in the next few days after the announcement. However, shorting all firms that have experienced an auditor resigning may not be the most efficient strategy when it comes to trading based on auditors. Betting against stocks where the auditor has raised concerns looks more fruitful. According to a 2013 study by Asad Kausar of Nanyang Technological University, Alok Kumar of the University of Miami and Richard Taffler of the University of Warwick, between 1993 to 2007 American firms where their auditor had queried their future as a going concern for the first time lagged the market by 14% over the next 12 months, even after the initial announcement.
How my tips have fared
The last fortnight has been a mixed bag for my long tips, with three of them going up and three falling. John Laing Group fell from 389p to 378p, Hays declined from 162p to 157p and Superdry fell from 482p to 447p.
However, JD Sports rose from 592p to 604p, Safestore increased from 630p to 643p and Bellway advanced from 2,697p to 2,728p.
Overall, my six long recommendations are making a total net profit of £572, with JD Sports currently my most profitable single tip.
In the last column I recommended that you short Beyond Meat. The strategy here is to wait until it falls below $120, and then short it at £15 per $1, covering your position at $185; that would give you a total downside of £975. In the past fortnight the stock has risen very slightly to $157. Similarly, at $91 Zoom Video Communications remains above the $68 level at which I think you should start shorting it.
As far as the four short tips that are currently active are concerned, three of them rose, though only by relatively small sums.
Weis Markets went from $35.66 to $36.49, Just Eat increased from 620p to 633p, and Tesla rose from $223 to $230.
The only short tip that actually declined was Pinterest, which declined from $26.77 to $26.72. Overall, the four short positions are making a net profit of £918, which is slightly down from £1,048 a fortnight ago.
At present I have three tips that are at least six months old: John Laing Group, JD Sports and Weis Markets. Although all three are making money, John Laing Group is the least profitable.
I have therefore decided that if it doesn’t rise any further soon, I will be recommending that you close your position and take your profits.