Bitcoin is the only thing more controversial than politics today.
Ask the Twitterverse if Bitcoin is a good investment, and you're going to get really different responses. First, when they first purchased (or mined) Bitcoin, the early adopters want to say everyone. They actually made a fortune if they purchased it at some time sooner than a few minutes ago.
Then there are value investors who see Bitcoin as nothing more than "artificial gold," as the cryptocurrency is described by Charlie Munger. Bitcoin, in his opinion, is nothing more than "total insanity."
Rather than trying to persuade someone of one view or another (although I will never bet against Charlie Munger), before you start buying Bitcoin, here are some questions to ask.
1. Bitcoin is capped at 21 million, but is the price justified by that?
Famously, Bitcoin is capped at 21 million. There is a fixed limit on the amount of Bitcoins that can be mined, unlike U.S. dollars which the Treasury can print at will. Many argue that the price is justified by this hard cap, particularly as the government prints more cash in response to Covid.
Bitcoin isn't the only limit-bearing commodity. In 2007, when real estate prices soared, the same claim was made regarding property. That didn't prevent crashing rates. In 2017, it also didn't save Bitcoin from crashing.
In addition, Litecoin is capped at 84 million, but it does not trade close to 25 percent of Bitcoin's price anywhere. Bitcoin is trading at around $36,000 as I type these terms. It sits at less than $165 for Litecoin. If it is rendered so valuable by a set Bitcoin number, why is Litecoin left behind? More importantly, consider whether a reasonable value of Bitcoin based on the 21 million limit can be extracted fairly. I can't, but you can, maybe.
2. The Bitcoin group has been entered by institutional investors, but does that make it a good buy?
As a reason for its current price, many refer to institutional investors purchasing bitcoin. Michael Saylor, founder and CEO of MicroStrategy (NASDAQ: MSTR), has bet the company's future on Bitcoin as an example. On a 5-year bond, his company also lent $650 million to sink further into the cryptocurrency.
The question a future Bitcoin purchaser should ask is, "So what?" "Bad investment decisions are taken by institutional investors all the time. The argument here is not that companies like MicroStrategy have made a mistake while investing in Bitcoin (although I think they have). The point is, when some institutional investors step into Bitcoin, one shouldn't look starry eyed. If anything, all it did was increase the price (bad for would-be investors). In the long-run, what it can not do is maintain unreasonable rates.
3. Will Bitcoin save us from the monetary policies of the government?
To reply to COVID, the government is borrowing a lot of capital. Although the Treasury's printing press has not (yet) contributed to major inflation in goods and services, asset prices have risen. As many want to identify it, it also brings into question the potential value of fiat money.
It's definitely true that asset prices increase as interest rates decline. One might even argue that we see this with Bitcoin. With stock values, we are definitely seeing it. Right now, with monetary policy, it's a fascinating time and one wonders how much our government will borrow without repercussions. But how do you take that fact and convert it to Bitcoin or some other cryptocurrency at a significant price?
The monetary policy warning has been sounded for decades by countless individuals. It was before Bitcoin that gold vendors used to sell gold. To sell annuities, insurance firms use fear. The same logic is used today to tout Bitcoin. It is not because the underlying worry is unfounded. The concern does not possibly explain the almost doubling of the price of Bitcoin in 30 days.
4. Does Bitcoin's price support the "network effect"?
Some claim that the network impact propels the price of Bitcoin upwards. It enjoyed early adoption, and as more people buy bitcoin, it becomes more valuable. Bitcoin was the first cryptocurrency. This is one reason why other cryptos, such as Litecoin, have not seen their prices soar.
This claim should be challenged by a future purchaser of Bitcoin. The network effect is when something's usefulness increases as it is embraced and used by more individuals. It can refer to applications for messaging or platforms for social media. But does it apply to Bitcoin, really?
It may be that Bitcoin has been used as a currency, but that is not the case. It's definitely true that the price goes up as more individuals and institutions purchase Bitcoin. But does this improve its usefulness? Will it make Bitcoin more useful as more people purchase it? If so, what is the exact usage that is being improved?
Some might say it's becoming a better value shop. More investors are definitely rising Bitcoin's liquidity. However, if that is the current concept of network effect, I wonder if it has lost all sense. Regardless, as applied to a social media website, it's definitely not the network effect. In addition, the same claim could be made for any asset that reaches bubble territory.
5. Can you deal with volatility?
Finally, if they can manage the uncertainty, those considering purchasing Bitcoin can inquire. Two questions really have to be considered here.
Whether you can manage the uncertainty is the first obvious query. Are you willing to hold on to Bitcoin even though it fall by 50%? For any investment, that's an important question to ask. For Bitcoin, that's especially essential.
What does volatility tell us about Bitcoin as an asset? The second question is more fundamental. For every liquid asset, though some volatility is to be expected, Bitcoin takes volatility to the extreme. It was 17 percent below $30,000 two days ago. It's above $36,000 today.
