Bitcoin Mining’s Death Game

The Bitcoin mining industry is experiencing a bear market crisis. After experiencing the crazy surge in Bitcoin prices in the fourth quarter of 2017, Bitcoin prices have continued to fall since the beginning of 2018, and the entire Bitcoin mining industry has entered a freezing period. In March 2018 alone, the price of Bitcoin fell from more than $10,000 to less than $7,000.

If the price of Bitcoin falls below $8,600, large mining farms will face the risk of losses, Morgan Stanley, a world-renowned investment bank, predicted in a research report in April 2018.

Retail miners and large mining farms suffered the most in this bear market. Morgan Stanley analyst Charlie Chan and his team studied the mining costs of various types of Bitcoin miners and calculated the break-even points of retail miners, large mining farms and mining machine manufacturers. The study found that mining machine manufacturers have more room to withstand the decline in Bitcoin prices than large mining farms or retail miners, and will not lose money as long as the Bitcoin price remains around $5,000. The break-even points for large mining farms and retail miners are $8,600 and $10,200 respectively - the price of Bitcoin has fallen below these two critical values ​​in March.

The Bitcoin mining industry has formed a complete upstream and downstream industrial chain, which consists of mining machine manufacturers, multi-level sellers, mining pools and miners. Mining machine manufacturers are in a core position, and other links are building business models around mining machine manufacturers. "You can think of mining machines as A-shares that you can only buy more. The entire blockchain industry revolves around Bitcoin, and the same is true for mining machines." A Chinese Canadian mine owner told Caixin reporters, "When the price of the currency falls, the price of the mining machine will also fall immediately on the same day. If you hoard mining machines at a low price, the price of the machine will rise when the price of the currency rises, and you will make a profit by selling them."

The three core factors that determine whether Bitcoin mining is profitable are the price of the currency, computing power, and electricity costs. When the price of Bitcoin irreversibly enters a downward channel, computing power and electricity costs become factors that determine the survival of the mining farm. Whoever can gain an overwhelming advantage in the competition of computing power and electricity costs is more likely to survive the cold winter and make a fortune when the next bull market comes.

From 2009, when Bitcoin was born, to now, the computing power of the entire network has increased by 30 billion times. The surge in computing power has caused the mining income of a single machine to be nearly halved almost every two months. How to compete with the computing power of the entire network to mine more Bitcoin is a key arena in this death game.

As the price of coins and machines both fell, electricity prices became the core factor in profits and losses. A difference of 1 to 2 cents in electricity prices can even directly affect the survival of a mining farm. "Mining machines are worthless, and mining revenue has fallen close to the cost of electricity. So people will compete to see who has the cheaper electricity. If people who pay more than 50 cents for electricity have to sell their machines at a loss, people who pay 30 cents for electricity can still start their machines," said a mining pool founder.

In addition to market fluctuations, the Bitcoin mining industry is also facing another severe winter. On January 2, 2018, the Internet Financial Risk Special Rectification Working Group issued a document requiring local rectification offices to take comprehensive measures such as electricity prices, land, taxation and environmental protection to guide enterprises within their jurisdiction to exit the "mining" industry in an orderly manner.

"This industry makes a lot of money when it is time to make money, but it has to pay it back in a bear market. One company lost 900 million yuan when the bear market came, and could only spend 100 million yuan out of 1 billion yuan earned in a bull market." The founder of the mining pool told the "Finance" reporter.

Crazy Miner

“Currently, the entire industry, apart from those researching technology, is playing the game of the capital market.”

The price of Bitcoin has been rising since September 2017, reaching its peak in December, with a rise of nearly 500% in just three months. According to data from CoinMarketCap, the price of a Bitcoin doubled from $4,000 in September 2017 to $8,000 in November, and even reached an ultra-high peak of $19,500 in December. The mining machine market has been frenzied since then.

A Xinjiang mine owner told Caixin that he bought a batch of mining machines for 10,000 yuan in July 2017. After six months of operation, the old machines were sold for nearly 30,000 yuan in December. The profit from selling the mining machines this time was close to the income he earned from mining coins for six months.

When the market was at its most frenetic, the price of mining machines changed every day, and all kinds of irrational behaviors occurred in the market. A mine owner revealed that a shareholder sold a machine in the morning, and bought it back in the afternoon when he saw the price increase, and he didn't even have time to move the machine. After discussing the repurchase with the buyer, the shareholder directly paid the buyer the difference in price.

ASIC mining machines dominate the global digital currency mining. Bitmain holds 70%-80% of the ASIC mining machine market share, making it the most influential party in the industry chain. In an interview with Business Weekly, Bitmain co-founder Zhan Ketuan revealed that Bitmain's revenue in 2017 was about US$2.5 billion. A person close to Bitmain told Caixin reporters that the actual revenue will be even higher.

The person revealed that Bitmain not only sells mining machines, but also has its own mining pools and mining farms, but more than 95% of its revenue comes from mining machine sales.

Although Bitmain claims that it only sells mining machines publicly from its official website, due to the limited production capacity of mining machines and the imbalance between supply and demand in the market, multiple levels of mining machine distributors have emerged.

Caijing reporters learned from several mine owners that the price of mining machines by manufacturers remains unchanged, and the fluctuation of mining machine prices starts from the first-level distributors. The first-level mining dealers get mining machines from manufacturers and quote prices based on the price of coins every day. Each subsequent level of distributors adds 100 to 300 yuan in turn. "Mining machine information is not transparent, and many people take a share in the middle. So it is not certain what level of distributor you actually buy from." said the above-mentioned Canadian Chinese mine owner.

Shenzhen Huaqiangbei is one of the places where mining machine distributors gather. Caijing reporter learned from several mining machine distributors at Shenzhen Huaqiangbei SEG Electronics Mall that customers who come to buy mining machines come from many countries around the world, including Russia, Serbia and other countries in addition to China. These countries have relatively cheap electricity and are booming in Bitcoin mining. Mining machine sellers here often have warehouses in Shenzhen and Hong Kong. Shenzhen ships to domestic customers, while Hong Kong ships to overseas customers.

Since the beginning of 2018, the Bitcoin market has experienced a large-scale and sustained downturn, and mining machines have fallen from frenzy to severe cold in just half a year.

"Miners are most afraid of buying mining machines when the price of coins is high. After the purchase, the price of coins will fall and the price of machines will also fall. When the price of machines plummets, the income from mining will also decrease." said Zhu Yu, co-founder of CoinIn Mining Pool.

On January 17, 2018, Bitmain announced the limited sale of the A3 mining machine. The ex-factory price was set at 20,800 yuan, with 6,000 units sold domestically and overseas, and all sold out within an hour. Due to the shortage of supply, the price of the A3 mining machine in Shenzhen Huaqiangbei was as high as 45,000 yuan at the end of January.

However, as the price of Bitcoin continued to fall, the price of A3 mining machines also plunged sharply from January 26, falling by 1,000 to 2,000 yuan a day. A customer bought an A3 mining machine at a high price of 45,000 yuan at the end of January and received the mining machine in early February. Three days after receiving the mining machine, the price of A3 mining machines on Bitmain's official website fell to more than 7,000 yuan. A mining machine seller at Shenzhen Huaqiangbei SEG Electronics Mall revealed to Caixin reporters that two of his colleagues had to close down because they could not bear the losses.

Affected by the decline in Bitcoin prices, mining farms have also cut down on a large scale. A mine owner with 50,000 mining machines in Xinjiang told Caixin that he is reducing the number of mining machines by 90 for every 100 mining machines. Currently, the number of mining machines has been reduced from 50,000 to about 15,000, and the reduction is still ongoing.

"There are no hedging tools in this industry, so we can only sell as soon as possible to control risks." A mine owner told Caixin reporters that many mining machine customers have leverage when purchasing, and some only need to pay 30% in advance to order machines, which amplifies the benefits and also amplifies the risks. "At present, except for those who are researching technology, the entire industry is playing the game of the capital market." He said.

There are also bold people who try to take advantage of the bear market to buy at the bottom and hold on to the coins. "Now I don't even look at the price of the coin. I just stock up on machines to mine coins. I'll see when the price reaches 10,000 yuan (RMB). "A miner in Henan who owns more than 100 mining machines said that he can mine about 50 ETH coins a month. He is currently planning to buy another 100 mining machines when the price of graphics card mining machines falls below 2,000 yuan.

“The price of coins changes every day, and it’s useless to calculate the profit of mining on a daily basis. To put it bluntly, it’s just gambling with money,” said the miner.

Computing power dilemma

“The demand for mining machines has grown exponentially, but the production capacity has not increased exponentially.”

From 2017 to 2018, the price of Bitcoin experienced two leaps of 4-5 times, and the price of mining machines also jumped twice. However, a closer look at these two stages shows that the impact of Bitcoin on the price of mining machines is quite different.

In the first jump, the price of Bitcoin rose from $1,000 in February 2017 to $5,000 in October, and the price of mining machines rose from 8,000 yuan to 10,000 yuan, an increase of 25%. In the second jump, the price of Bitcoin rose from $5,000 in October 2017 to $19,000, and the price of mining machines rose from 10,000 yuan to 30,000 yuan, an increase of 200%.

The difference between the two increases was as much as 8 times. "The two rises and falls in Bitcoin prices had very different effects on the price of mining machines. The demand for mining machines grew exponentially, and the computing power of the entire Bitcoin network skyrocketed, but the second production capacity did not keep up." Zhu Yu, co-founder of Biyin Mining Pool, told Caixin reporters.

Bitcoin is a competitive game based on computing power. As a Bitcoin miner, if you want to mine more Bitcoin, it means that your mining machine needs to compete with the computing power of the entire network. Bitcoin based on blockchain technology has a unique calculation rule: on average, one block is mined every 10 minutes, and each block contains more than 12.5 Bitcoins. In order to maintain the block rate, Bitcoin will increase the calculation difficulty approximately every 13 days.

From 2009 when Bitcoin was born to now, the total network computing power has increased by 30 billion times. There are more than 2 million mining machines in the world gathered in dozens of mining pools to concentrate on Bitcoin mining. The more computing power the whole network has, the less profit a single mining machine will make, because the Bitcoin output of the whole network is fixed. Theoretically, the whole network can mine 144 blocks a day, and the mining bonus of one block is 12.5BTC. The total output of Bitcoin mining in the whole network is 1800BTC per day. The actual mining output will be more, about 2000BTC to 2200BTC.

The computing power of your mining machine accounts for a few percent of the total computing power of the entire network, which means that you will get a corresponding proportion of mining income from the output of more than 2,000 BTC.

Zhu Yu, co-founder of CoinIn Mining Pool, pointed out that the computing power of the entire Bitcoin network has increased by 8% every 12 days in the past year. At the beginning of 2017, the computing power of the entire network was 5EH/S, and at the beginning of 2018, it increased fivefold to 25EH/S, which is equivalent to four times more mining machines competing. The computing power of Bitmain S9 mining machine is 13.5TH/S. Now it takes about 1,000 mining machines to mine 1 Bitcoin.

Not only Bitcoin, but other digital currency miners are also facing the dilemma of skyrocketing computing power and sharply falling mining income. An Ethereum miner told Caixin reporters that in October 2017, his mining machine could still mine 1 ETH per month. But after about two months, it could only mine 0.6 ETH, and by March 2018, it could only mine 0.45 ETH. The surge in computing power has caused the mining income of a single machine to be nearly halved every two months.

He did some calculations. With the price of ETH at RMB 3,000, the average output of a single machine is 0.5 ETH, which is about RMB 1,500. The monthly electricity bill costs about RMB 800, and the monthly profit of each mining machine is RMB 700-800. Based on the cost of a machine of RMB 6,000, it will take 9-10 months to get back the investment. The surge in computing power will delay the payback time even longer, to more than a year.

A payback period of more than one year is quite dangerous for miners. Bitmain's mining machines launch a new batch of iterative products every 1.5 years on average. Under normal circumstances, miners will sell their coins and second-hand machines after mining for half a year and invest their cash flow in purchasing the latest models of mining machines. If the payback period is too long, these old mining machines cannot be converted into cash, consume a lot of electricity, and lose in the computing power competition, and the mining income is extremely small, which is equivalent to "scrap metal".

The time to go it alone is over.

Smart people invented the "mining pool" - a program that can combine scattered personal computing power to operate together. When your personal computing power accounts for only one hundred millionth of the total network computing power, after connecting to the mining pool, your computing power and that of others are combined to become one tenth or even more of the total network, which gives the mining pool the opportunity to obtain more mining income through computing power advantages. The mining pool charges a 3%-5% handling fee and then distributes the income to the miners.

In May 2011, Eligius, the world's first Bitcoin mining pool, was established. 2012 was called the "first year of mining pools", and the computing power of all mining pools accounted for 50% of the world's total computing power that year. This means the end of the era of individuals using home computers to mine Bitcoin. "After the mining pool was established, stand-alone machines could no longer mine," said Zhu Yu, co-founder of the CoinIn Mining Pool.

The essence of a mining machine is a collection of chips, not a complete computer. Its system is the same as a router and can only perform computing operations. Therefore, when a mining machine is mining, the mining pool needs to issue tasks to the mining machine, and after the mining machine completes the task, it needs to conduct inspections and issue revenue rewards.

In order to attract more mining machines to join the aggregation of computing power, mining pools will design more generous reward mechanisms. A simple analogy is that if mining is abstracted into a dice rolling game, the game rules should be that rewards are only given when the dice are rolled above "5", but many mining pools will design that as long as the dice are rolled above "3", a small part of the reward can be shared. This makes miners more enthusiastic to join the mining pool, rather than mining individually.

"If the mining pool can seize the incremental computing power, it will rise quickly." Zhu Yu, co-founder of Biyin Mining Pool, said. He once participated in the establishment of BTC.COM. BTC.COM was launched in September 2016 and is an internal mining pool startup project of Bitmain. By seizing the bull market dividend of the Bitcoin market in 2017, BTC.COM went from being outside the top ten in 2016 to becoming the world's number one mining pool at the end of 2017.

As Chinese miners grow stronger around the world, Chinese mining pools are also rising. Considering the network speed, miners will give priority to mining pools in their own country, so mining pools and miners are one and the same. According to real-time data from BTC.COM, in April 2018, Chinese mining pools occupied eight of the top ten mining pools in the world, controlling 75% of the total Bitcoin network computing power. Among them, Bitmain's two mining pools, BTC.COM and Ant Pool, firmly occupied the first and second positions.

Mining pools solve the problem of insufficient computing power of a single mining machine, but they also cause people's concerns - in theory, as long as someone can control 51% of the computing power of the entire network, they can launch a "51% attack" and control the entire Bitcoin network. Currently, BTC.COM, the number one mining pool, has occupied more than 30% of the computing power of the entire network.

How to check and balance the power of mining pools has also become the next difficult problem for Bitcoin mining.

Power Gaming

“Mining machines are worthless, so we’ll see who has the cheaper electricity bill.”

Electricity prices and machine prices are the two core costs of Bitcoin mining. When the price of both the currency and the price of the machine fall, the electricity price becomes the key to profit and loss. A difference of 1 to 2 cents in electricity prices can even directly affect the survival of the mining farm.

When individual miners are mining, the infrastructure is often not up to standard. A miner told Caijing that he had set up more than 100 mining machines in a rural area of ​​Henan, and he didn't even connect the ground wire. At first, when there were only 20 to 30 mining machines, the machines ran stably, but after the number increased to 100, many mining machines often crashed due to increased static electricity. He came up with a simple way to remove static electricity: dig a pit in the yard, buy discarded triangle irons and throw them into the pit, and then pour more than a dozen bags of salt.

Since there is no other way to supply electricity, he can only use the city electricity for mining, which costs 0.76 yuan per kilowatt-hour. The total electricity cost of all mining machines in a month is more than 80,000 yuan. The income from mining is 50 ETH. Based on the current ETH price of 4,200 yuan, the monthly income is 210,000 yuan, and the profit after deducting the electricity cost is 130,000 yuan. At the same time, the total cost of purchasing mining machines is about 1 million yuan, which means it will take nearly a year to recover the cost. As the computing power continues to decline, his payback time will be longer - this does not include the risk of falling currency prices.

"The profit curve of a mining machine is continuously declining. When the profit curve drops to the same level as the electricity bill, it reaches the shutdown critical point. Generally, a mining machine is sold after about half a year, the investment is recovered after half a year, and the machine is shut down after a year and a half. Only when your electricity bill is particularly cheap can you keep the mining machine running," said Zhu Yu.

In pursuit of low electricity costs and professional infrastructure, the Bitcoin mining industry has gradually developed from individual miners to large-scale mines. "Mines have special requirements: the noise is as high as 100 decibels, and it is not suitable to place mining machines in cities. At the same time, the electricity cost cannot be too high, and it must be equipped with various facilities such as voltage stabilizers. Individual investors cannot do it, and it is only suitable for factories to mine." A Xinjiang mine owner told Caixin reporters.

Mining farms are divided into two modes: self-owned and managed. Since the self-owned model requires a large amount of cost to be invested in mining machines in the early stage, most mining farms currently adopt the managed model - similar to the property service of real estate, the mining farm finds a mining site with low electricity costs and manages the mining machines for customers. The mining income belongs to the customer, and the mining farm only charges part of the management fee.

Despite this, the initial investment in building a managed mining farm is not small. According to a Guizhou mining farm owner with 20,000 machine slots, the cost of a managed mining farm is 1,000 yuan per machine slot. If a small or medium-sized mining farm has 10,000 machine slots, some costs can be saved, but it still needs to invest 7 or 8 million yuan. However, the income from mining farm hosting is also considerable. Generally, mining farms will charge customers a service fee of about 200 yuan per month. If all 10,000 machine slots are fully occupied, the investment can be recovered in about half a year.

When Bitcoin enters a bear market, who has lower electricity costs will determine whether the mining farm can survive the cold winter.

A mining pool founder revealed that the current electricity consumption in the mining industry is divided into two categories: normal industrial power supply is 0.6 yuan to 0.7 yuan per kWh, but the electricity cost of many mining farms is only 0.3 yuan to 0.4 yuan per kWh. There are many sources of this low-cost electricity, some of which are informal, such as a certain link not paying the network fee, and some areas do not have state power. If you want to open a mining farm yourself, you have to negotiate with units that have power sales qualifications, such as Xinjiang Corps and Inner Mongolia Mengxi Power Grid. "No one wants electricity in these places anyway, so we can negotiate a better price. It is mainly thermal power, but there is also wind power."

In order to find cheap electricity, the army of Bitcoin mines started a nationwide migration in search of electricity that lasted for several years.

A mine owner who started mining in 2014 told Caixin that the earliest group of miners in China gathered in Shenzhen. At that time, they used Shenzhen electricity, which was expensive at nearly 1 yuan per kWh. Many Bitcoin miners were migrant workers working in Shenzhen, and their hometowns were in Henan, Anhui and other places. They then brought their mining machines back to their hometowns to start large-scale mining, and the mining gathering places moved to Pingdingshan, Ma'anshan and other places. In order to reduce electricity costs, many people tampered with electricity when mining, "basically using half and stealing half." After that, Pingdingshan and other places began to strictly control the theft of electricity, and electricity costs lost their low price advantage. Miners began to move to Sichuan, which has a large amount of hydropower.

Sichuan is rich in hydroelectric power, and the supply of electricity exceeds the demand during the flood season. Some mines can even directly contract a small hydropower station for power supply, and the lowest electricity cost can reach 0.1 yuan to 0.2 yuan per kilowatt-hour. However, after entering the autumn and winter seasons, Sichuan's power supply is unstable, and the migration of mining companies has triggered fierce competition among power plants, and electricity prices have begun to rise. The mining army then moved further from Sichuan to the northwest. At present, many mines have moved to Inner Mongolia and Xinjiang, mainly using thermal and wind power generation. At the same time, some more powerful mines have begun to migrate overseas. Canada, Russia, Iceland and other countries with cheap electricity have become destinations for Chinese mine migration.

Navigating the bear market

“For people who have been in this field long enough, this seems more like history repeating itself.”

The bear market in early 2018 made the entire Bitcoin mining industry tremble in the cold winter. But for some people who have been in this field for a long time, this time is more like a repeat of history.

There are cycles in the Bitcoin world - some people who experienced the Bitcoin bear market in 2014 tend to make the above judgment. At the end of March 2018, Zhao Dong, the operator of one of the largest Bitcoin mines in China, publicly shared his judgment on the Bitcoin cycle in the blockchain community. He believes that the sharp rise and fall of Bitcoin from November 2017 to now is very similar to the stage after Bitcoin rose to its historical high of 8,000 yuan in 2013.

"Bitcoin has a four-year cycle, with the mining halving as the key time point. If we regard 2013 as the summer of Bitcoin, then 2014 is the autumn and 2015 is the winter. I once froze to death in the winter of 2015," said Zhao Dong. He inferred that the halving of Bitcoin in 2016 would start a new round of bull market, which would become a big bull market in 2017, and would enter another "autumn" in 2018, and the "winter" would be in 2019.

According to CoinMarketCap data, Bitcoin entered a volatile downward channel from 2014 to 2015, with prices hovering at a low of 200 to 300 US dollars. It was not until 2016 that Bitcoin began to enter a volatile upward phase, and a new round of bull market began. A large number of mining machine companies, miners, and cryptocurrency speculators lost all their money in this round of sharp rise and fall. Zhao Dong was one of them.

In his social media sharing, he mentioned that in 2014, he lost nearly 150 million yuan due to leveraged cryptocurrency trading and opening a Bitcoin mining farm. In 2015, Bitcoin fell to 900 yuan. In order to repay the debt raised for opening the mining farm, Zhao Dong had to sell all his mining equipment. The mining machines he bought for 50 million yuan were sold for less than 3 million yuan. At the most difficult time, he only had 100,000 yuan and 60 million yuan in debt.

The brutal bear market has also become an opportunity for some people. When miners with electricity costs of more than 0.5 yuan are eager to sell their mining machines, miners with electricity costs of 0.3 yuan have not yet reached the shutdown threshold and can keep mining. Some miners took the opportunity to buy a large number of mining machines at a low price of several hundred yuan, and continued to mine until 2017, becoming rich in the new round of bull market. Bitmain, which currently has the largest market share in the global mining machine market, is also a survivor of the 2014 Bitcoin "winter".

A person close to Bitmain told Caixin that Bitcoin plummeted in 2013-2014, and mining machines that cost two to three thousand yuan could only be sold for less than a few hundred yuan. If they were not sold, they would be scrap metal. There were dozens of mining machine manufacturers in the market at the time, and most of them went bankrupt due to broken capital chains when the price of the currency plummeted, or had to cut R&D costs even if they barely survived. Bitmain has always emphasized cost control, so it stood out in this round of bear market.

In 2014, Bitmain launched Antminer S3 and S4 mining machines. The sales of S3 mining machine were good, but affected by the market downturn, the sales of S4 mining machine were bleak, and the company suffered a lot of losses. Fortunately, due to good cost control, Bitmain was still able to support the development of a new generation of mining machines during the trough period. In January 2015, Bitmain launched a new generation of Antminer S5. While most of its competitors cut back on research and development due to the bear market, Antminer S5 was successful in the market. In an interview with Business Weekly, Bitmain co-founder Zhan Ketuan said that the company would prepare three years of cash flow for the bear market.

"Bitmain survived that round with the S5 mining machine, and the bear market was an opportunity for it to come out on top. What's interesting is that Bitmain's even-numbered mining machines tend to lose money, but the odd-numbered ones are very successful. So later there were only S7, S9, and S11, but no S8. Bitmain never released even-numbered models after S4," said the person close to Bitmain.

Since April 2018, the price of Bitcoin has begun to show signs of recovery, rising from around $7,000 to over $9,000. Some people in the digital currency industry believe that this is a sign that Bitcoin is returning to the bull market, while others believe that the bear market will last for a year or more - different judgments will determine their different fates.

In any case, only those who foresee the cold winter and prepare for it early will have a better chance of seeing the next bull market.