Should You Invest in Bitcoin?

Over the past three months, the value of Bitcoin has grown steadily from less than $250 to the $300 to $350 range, then surged to $400, fell back to $300, stabilized around $325, fluctuated around $350 on Black Friday, and then jumped higher - following a potential discovery by Bitcoin's creator - to $430 this morning (December 10).

To put the year in perspective, the high of $437 was 2.5 times higher than the low of $177, according to Blockchain.info — and those ups and downs don’t even come close to matching the volatility from 2013 to earlier this year, when prices went from relatively low prices of $1,200 to $200.

While 2015 has proven to be the year that venture capital and Wall Street have made bets on blockchain (shorthand for the distributed ledger technology behind bitcoin), with everyone from Goldman Sachs Group Inc. to American Express and Nasdaq to Kleiner Perkins Caufield & Byers investing in bitcoin companies, with $314 million in venture funding in the sector, according to Pitchbook, it’s still unclear what the future holds for bitcoin.

Wall Street has already taken some action: Earlier this year, the New York Stock Exchange officially launched its Bitcoin index, NYXBT; the Bitcoin Investment Trust (GBTC) also began trading Bitcoin, and the trust's shares can be held by IRAs, Roth IRAs, and other brokerage and investment accounts, and can be passed on to beneficiaries. The Winklevoss brothers launched Gemini, a fully licensed and regulated Bitcoin exchange, in early October. They also have ETFs already running, which, like GBTC, are very attractive to institutions that want exposure to but do not directly hold Bitcoin, as well as people with pension plans and 401(k) plans.

These moves show that big players are promoting Bitcoin to become an intrinsic part of people’s portfolios, but does that mean you should invest in it?

While the value of Bitcoin at any given time can reflect confidence in its fundamental value as well as transient influences on price — for example, the volatility of the past few months has been attributed entirely to a Ponzi scheme involving Bitcoin, which led to a drop in the Chinese stock market — I examine the factors that may affect prices over the long term to help potential Bitcoin investors make informed decisions.

The factors considered in this article are current as of December 2015. If the development of Bitcoin changes, I will revisit this topic. It must be clear that the pros and cons listed in this article are not based on current price considerations, but are for investors who are looking to hold Bitcoin for the long term, those who are more concerned about the price in 5, 10 or 20 years. In this article, I will discuss the reasons in favor of investing in Bitcoin.

1. Supply is fixed

Since January 3, 2009, the value of one bitcoin has risen from zero to more than $400 today. Many attribute this to bitcoin’s technical ability as an electronic cash — it can transfer money instantly and securely without the worry of the sender forging documents or defrauding the recipient, and without the need for middlemen who charge fees.

But the currency’s defining feature that ensures its long-term value over all others is its capped supply. Once 21 million bitcoins are mined (which will be reached around 2140), the system will stop generating new coins. In the white paper Bitcoin: A Disruptive Currency, ARK Investment Management’s Chris Burniske, the first public fund manager to invest in Bitcoin, put his GBTC stake into his Web x.0 ETF, comparing it to the U.S. dollar: “While individuals, institutions, and governments can expect the dollar to remain fairly stable in the short term over the next few months or even years, history reveals a chilling fiscal truth. The dollar has lost value over the years and will likely continue to lose value… In fact, the dollar is worth only 4% of what it was a century ago.”

In addition, the rate at which Bitcoin’s supply increases will slow over the next few hundred years—every four years, the number of new Bitcoins produced will be halved, further preserving its purchasing power. “Given its predictable growth and fixed supply limits, Bitcoin is likely to be a better store of value than fiat currencies in the long run,” Burniske concluded.

2. Assuming Bitcoin is used in many practical applications, its value will increase significantly

"As platforms and protocols become more ingrained in society and built into products and services, becoming social networks like the Internet, individuals and companies will need to own bitcoin to participate," said Barry Silbert, founder and CEO of Digital Currency Group, which has invested in 55 cryptocurrency companies in 17 countries. "So if you pay your employees in bitcoin or pay your suppliers in bitcoin, you may not have a lot of bitcoin, but you will have some. People want to move money around the world, they will convert bitcoin at a high rate, but they will still hold bitcoin for a certain period of time... and the size of the money required to work will grow as the global economy grows."

Speaking of GBTC, Gil Luria, an analyst at Wade Securities, made a prediction for Bitcoin’s value in 10 years. His prediction is based on an assumption similar to Silbert’s — that as Bitcoins are used more for transactions, a certain monetary base will be needed to strengthen them and increase their prices. In July, he predicted a 12-month target of $400 for Bitcoin. In early November, once Bitcoin reaches that number, the firm will re-analyze and predict a 1-year target of $600 (or $60 per GBTC). He pushed the forecast because “more and more financial institutions of all kinds are trying to adopt the technology behind Bitcoin,” he said, “and the underlying usage metrics are growing nicely, especially for economic purposes.” In addition, he added that some industry insiders have reported that the previous valuation method took into account too much available currency, so he re-examined some of the assumptions. In his analysis, he also mentioned an increase in payment fees, which is attributed to Bitcoin miners who facilitate transactions (most of their current income comes from rewards for mining new Bitcoins).

Luria's speculation is based on the assumption that the number of bitcoins will be limited, and then explains that it is possible that a certain percentage of bitcoins will be used for investment, or they may be left alone due to the loss of the key to activate the currency or some other reason. For example, assume that 50% of bitcoins are currently used for investment or are left alone, and the other half are used for turnover. However, by 2025, it is expected that 67% of bitcoins will be used for transactions.

The analysis assumes that a certain amount of Bitcoin will be used for online payments, remittances, microtransactions (such as paying a small amount of money to filter ads when reading an article), non-bank applications and other unknown applications, as well as the growth rate of each application project. It then calculates the Bitcoin monetary base required to support this amount of transaction records, and uses a 40% discount rate to work backwards (to determine how much Bitcoin's current value needs to be to support this amount of economic activity in 2025). After adding up all the Bitcoin used for online payments, remittances, microtransactions, non-bank and other applications in 2025, he concluded that by then, one Bitcoin will be worth $17,473, and in order to support this amount of economic activity in 2025, the current value of one Bitcoin will need to reach $604. If Luria's prediction comes true, today's investors will receive more than 40 times the return in 10 years.

3. It seems that more and more individuals and businesses are using Bitcoin

If volume drives up the price, then trends in transactions and merchant adoption of Bitcoin are a good indicator of Bitcoin’s value.

The overall daily transaction volume continues to grow over time, as can be seen in the blockchain chart.

Bitcoin transaction volume shown on Blockchain.info

Back in 2011, when the Bitcoin ecosystem was still young, data provided by Bitcoin merchant processor BitPay showed an overall growth trend in commercial transactions.

BitPay monthly transactions based on Bitcoin price

While in the short term, transaction volume doesn’t significantly affect price — in fact, we saw an increase in transaction volume in 2015 while the price remained roughly the same — it does in the long term, said Stephen Pair, CEO of BitPay. “This is exactly why there has been speculation in bitcoin recently,” Pair wrote in an email. “If people don’t think bitcoin will be accepted in the long term, then they won’t invest in it.”

According to a recent survey by Goldman Sachs and the Electronic Transactions Association, although only 2% of merchants currently accept Bitcoin, another 25% expect to try it in the next two years. ARK estimates that 160,000 merchants already accept Bitcoin, and by 2017, that number will grow to 1.8 million.

BitPay is also seeing changes that could be good news for the value of Bitcoin, depending on the types of businesses using its services. Previously, it was sole proprietorships owned by Bitcoin enthusiasts who had no commercial need for the cryptocurrency that were registering to use it. Now, "we're looking for businesses that can find real utility and real value in the platform," Pair said in an interview. "These, to me, are early signs of a tipping point. These businesses don't really care about Bitcoin itself or the concept of Bitcoin. They just know that Bitcoin solves a problem or saves money."

For example: If hackers attack a bank with a distributed denial of service (DDOS) attack, knocking its website offline, the bank might hire a DDOS mitigation service in another country and pay the anti-hacking team right away. Many of them are using BitPay to ensure that international transactions are completed within minutes, rather than using time-consuming wire transfers. In general, Pair said that many IT service companies such as web hosting companies and VPN service providers are turning to BitPay for payment.

In countries like Argentina where the currency is unstable, or Indonesia, Russia, the Philippines, and India where the banking infrastructure and credit cards are not well developed, people have smartphones and like to buy online, and people use Bitcoin every day. Wences Casares, CEO of Bitcoin bank and e-wallet Xapo, said: "Our customers in the United States and those in developed countries use Bitcoin as an investment. They don't trade anything. They don't use Bitcoin for payment. Whereas our customers in emerging markets use Bitcoin almost exclusively for payment, they are large Bitcoin traders. They use their debit cards six times a week."

4. Higher prices can increase trading volume, which can further increase prices

One theory is that when the price of bitcoin rises, people are tempted to hold on to it rather than spend it. But so far the opposite seems to be true, with speculators lending evidence that prices grow when more people use bitcoin for transactions. “What we see in price growth is a corresponding increase in transaction volume (and then mean reversion as prices fall back),” BitPay’s Pair wrote in an email.

Adam White, vice president of business development at Coinbase, the original bitcoin wallet and exchange, says the company sees a similar situation: "When the price goes up, there's more interest -- and that almost always means more users, more trading volume, people buying more bitcoin, creating accounts to use bitcoin. Some users start saying, 'Hey, yesterday bitcoin was $250, today it's $275. I'm going to sell it.' So there are some users who want to lock in the growth when the price goes up." However, he stressed that price movements don't make everyone act in the same way, and many other factors besides price fluctuations can have a greater impact on the demand for a currency.

Silbert believes that price volatility creates a wealth effect — just like a gambler who decides to spend some of his winnings at a casino’s luxury store, people feel richer as the value of their bitcoin increases, which incentivizes them to spend it, which in turn makes more merchants interested in adopting it. “As more merchants adopt it, convert it into dollars, it creates more volume on exchanges, and when you have more volume on exchanges, it attracts more traders, which creates more volatility and ways to make money,” he said. “When you have more traders, there’s more liquidity and velocity on the bitcoin rail, and this technology has the potential to become a global payment method.”

5. Bitcoin has a first-mover advantage over other digital currencies

Even as Bitcoin faces competition from other cryptocurrencies, it seems unlikely to be eliminated at this point. Not only does Bitcoin have a larger market cap than any other cryptocurrency — $6.5 billion at press time, compared to $268 million and $164 million for its competitors, Ripple and Litecoin — it also has more applications than any other virtual currency, including Ethereum, Stellar, and others. All major digital currency wallets, exchanges, payment processors, and others use Bitcoin, and even app companies like Circle, Abra, Align Commerce, and Uphold that don’t call themselves Bitcoin companies use Bitcoin behind the scenes, primarily for money transfers. Few companies, especially cryptocurrency companies, market themselves to people outside of a core group of enthusiasts and support any other virtual currency.

While cautionary tales like AOL and MySpace show that first-mover advantage is not omnipotent, Bobby Lee, CEO of BTCC, one of the most active bitcoin exchanges, rejects the comparison. "Friendster, MySpace, Facebook weren't true network effects," he said, using the term network effect to describe how a product or service becomes more valuable as more people use it. "In the end, they became controlled entities. They lived and died based on what those executives did — whereas Bitcoin is open."

In addition, the Bitcoin network is “probably orders of magnitude more secure than its competitors combined,” BitPay’s Pair said, largely because its mining network — a global network of computers around the world that update the distributed ledger of Bitcoin transactions in order to get more newly minted Bitcoins — is much more powerful than its competitors’ networks. Pair said other digital currencies have had to overcome network effects while acknowledging that Bitcoin has the most liquidity.

"For a company like BitPay, if it wants to adopt a payment method, and it's a cryptocurrency, we have to make sure there are buyers for the cryptocurrency to turn it into a fixed asset that merchants want," he said. At the same time, he also said that if a virtual currency market is small but the circulation is large, it will lead to too much volatility, and it will be difficult for companies to manage risks as a payment method.

“Competitors have to come up with something more secure and liquid than Bitcoin,” he said. “We thought, if we offer an online payment processing service that makes it very easy to convert assets into Bitcoin and vice versa, why wouldn’t we choose to only use Bitcoin when Bitcoin is the most secure payment method of all? … So, if we want to accept another currency, the first problem we need to solve is that currency is more secure and liquid than Bitcoin, and then we can perhaps switch from Bitcoin to the only alternative currency - because there is no reason to accept Bitcoin anymore.”

6. So far, overall, most government regulators have a cautious and positive attitude towards digital currencies.

At least in the United States, digital currency consumers and businesses have a fairly clear idea of ​​how the federal government and some state governments will treat their activities. For example, the IRS has said it will treat Bitcoin as a taxable asset as a means of payment, while the CFTC treats it as a commodity. Otherwise, the federal government has stated that it will not regulate Bitcoin. Some regulations, such as New York's Bitlicense, "may unintentionally create barriers to entry for new entrants, but in the United States, there are companies like Coinbase, BitPay, Circle, and Xapo that are well-funded and legally armed, so they are ready to face any difficulties," Silbert said. Internationally, the reaction has been mixed. Russia plans to ban the conversion of rubles into cryptocurrencies, while in Europe, Bitcoin is exempt from value-added tax (VAT), a decision that has cheered investors.

"In some places, governments are accelerating action, but their positions are still unclear. In other places, governments are actively involved and supportive," Silbert said. "This is not to say that the direction is clear and the journey will be smooth, but given that financial markets in developed countries seem to be embracing this technology, after careful consideration, I am optimistic about the development of Bitcoin."

7. Bitcoin may be undervalued compared to gold

Silbert is the founder of SecondMarket, a platform that empowers private companies to raise funds and allows shareholders to sell shares. He believes that there are two things that can be compared to Bitcoin, one of which is gold.

"Bitcoin has all the properties of gold: scarcity, limited supply, fungible, highly divisible, and cannot be counterfeited," he said. "But Bitcoin has one advantage over gold: it's practical." Gold is a jewelry commodity and can also be used in some industrial processes, but as its price rises, both uses are no longer as practical, he said. "But Bitcoin has become more useful. As a (transfer) track and (financial transaction) ledger, Bitcoin has become more useful.

Today, the total value of gold is about $7 trillion, while the market cap of Bitcoin was $5 billion the day I spoke to Silbert (it’s $6.5 billion at press time). If, in times of economic disarray, people invested in Bitcoin the way they previously invested in gold and Treasury bonds, the price of Bitcoin would rise, Silbert speculated: “If you consider what happened in the Greek crisis (when Bitcoin’s price rose to over $300), the price of Bitcoin grew, and I think it’s reasonable to believe that Bitcoin—as a store of value, as a speculative investment—would do well in a recession.” If that were the case, he hypothetically proposed that if just 5% of the $7 trillion was moved to Bitcoin, it would surge to $350 billion. “So if just 5% of gold was moved to Bitcoin, the price of Bitcoin would surge 70 times, but that’s just an example.”

BTCC's Lee says the best way to measure Bitcoin's value is on a per capita basis. And that's good for gold. Right now, Bitcoin is worth less than a dollar per person globally, while what Lee calls "the so-called overlooked asset class that no one wants to mention, the dirty four-letter word GOLD" is about $1,000 per person. But, he estimates that perhaps in the next few decades, Bitcoin's value could soar to $1,000 or more, with a market cap of more than $7 trillion - nearly 1,100 times its current value.

8. Comparing Bitcoin to a tech company also suggests that Bitcoin could become valuable

Silbert, who has been involved in valuations for almost his entire life, thinks the second analogy for Bitcoin is a technology company. In this hypothetical experiment, the Bitcoin "company" has authorized 21 million shares, about 14.9 million currently outstanding, and a market value of $5.9 billion. If you think about the companies that will be affected by this new "company" Bitcoin, you might find that it may include Western Union, with a market value of $9.5 billion, and PayPal, with a market value of $43 billion.

"Can Bitcoin as a technology, as a protocol, as a platform, have the same impact on society as Facebook, Google or Apple? The answer is yes. I'm not saying it will, but I'm saying it has the capacity to do so," Silbert said, noting that Apple's market value is approaching $650 billion. He acknowledged that this approach ignores factors such as price-to-earnings ratios and the flow and growth of cash flows. "Bitcoin holders don't see dividends, you're never going to be acquired," but Silbert said the savings that Bitcoin has brought to financial services companies through cross-border payments, securities trading and regulatory compliance -- estimated by Santander Innoventures to be $15 billion to $20 billion by 2022 -- are tantamount to earnings. "So if Bitcoin as a company saves $10 billion a year globally and you take a 15x (share price earnings), it's a $150 billion company," he said, adding, "Again, I'm putting a lot of different concepts together."

9. A pure trading indicator that looks like a buy

If you believe that a security’s past behavior is predictive of future performance, then you have reason to believe that Bitcoin will continue to rise. For example, one theory is that if the 50-day moving average, which is the average price of a stock over the past 50 days, is below the current trading security, then whenever it reaches that average, it will bounce back.

Illustration of the theory of a stock rebounding after hitting its 50-week moving average

“The longer the moving average cycle lasts, the stronger the rally will be… Bitcoin has found strong support from the 200-week moving average of $252.59 and just broke resistance at the 100-week at $388.54,” ARK’s Burniske wrote in an email, but “there is no doubt that Bitcoin has a strong uptrend and cleared key resistance levels, which allows Bitcoin to move quickly.”

Bitcoin trading chart above 200-week moving average with Bloomberg caption

10. More investors take it seriously as a portfolio diversification option

Michael Sonnenshein, director of business development at Grayscale, who often talks to institutional investors and investment advisors interested in investing in GBTC, said there has been a fundamental shift in the types of investors interested in investing in Bitcoin. He said that in the past few years, customers have mainly been very wealthy individuals, family offices and small businesses or technology-oriented investors who can more easily understand Bitcoin.

“And now we’re seeing unprecedented interest from the financial advisor community because their clients and their children and relatives are increasingly asking questions about Bitcoin – should it be an investment for them?” He is also seeing more and more institutions becoming interested in Bitcoin as heavyweight financial institutions are also investing in it.

“When people saw that credit cards, MasterCard and American Express credit cards were starting to involve bitcoin and blockchain technology, a lot of people suddenly realized that this is something they should pay attention to,” he said. In addition, he noticed that people in China or Greece who were affected by global market fluctuations were also turning to digital currencies as a way to diversify their portfolios.

These 10 arguments may have inspired you to buy Bitcoin, however, in part two of this series I discuss some issues that raise questions about Bitcoin's future value. And predictions right now are just that - predictions. "When you try to calculate what the price will be like in 10 years, you make assumptions and work backwards, and small changes in assumptions can have a huge impact on the price," Silbert said. "So it's easy to have a calculation that shows the price of Bitcoin will be $10,000, and then after some adjustments, you can get it back to $100."

More importantly, the question of whether to invest in Bitcoin depends on your own investment goals, investment time frame, and risk appetite. "In 10 years, the price will neither be 0 nor much higher than today, so Bitcoin investors should only invest funds within their tolerance range in Bitcoin," Silbert said.

Original article: http://www.forbes.com/sites/laurashin/2015/12/11/should-you-invest-in-bitcoin-10-arguments-in-favor-as-of-december-2015/

Translation: BTCC