Everyone has heard of bitcoin these days. Most people understand it is a digital currency and have seen its meteoric rise from about US$1 in April 2011 to over US$60,000 in March 2021. It currently sits at about US$37,000 today (27 July 2021). Putting US$1,000 into bitcoin back then would equate to US$37m now so it’s no wonder people are tempted to invest just so they don’t miss out again. Bitcoin is of course extremely volatile and in any given month could just as easily halve as it could double in value. But as long as it continues to be volatile it will gain headlines and investor attention.
So, what is bitcoin, and how does it stack up as an investment?
Bitcoin is a digital asset. If you own 1 bitcoin that’s it, that’s what you own. Just as you can buy 1 ounce of gold, or you can buy 1 US dollar. That’s the asset. There is limited supply, 21,000,000 bitcoins to be exact. Nearly 19,000,000 have been mined and are in circulation with the remainder not yet in circulation. You can buy a part of a bitcoin as they are divisible into 100,000 parts. But for all intents and purposes a bitcoin is its own measure and a separate store of wealth.
The real question is why would you hold your wealth in one commodity or currency over the other? The reason many of the early adopters, miners, and buyers of bitcoin hold it is that they believe it is a better way to exchange, transact and store wealth. They believe that the future of money is in a digital form, decentralised and not controlled by a central bank or government. I think this is likely true, and I am certain that the future of money will be cryptocurrency in some format.
I also believe in the next decade cryptocurrencies and their associated technologies such as blockchain, smart contracts and non-fungible tokens (NFT’s) will become mainstream and change the world in ways many people haven’t even considered yet. There are now hundreds of competing cryptocurrencies, different technologies and applications emerging, bitcoin is just one, the first one. But I don’t think it will be bitcoin specifically that wins the day in the long term. There are some flaws inherent within bitcoin that make it susceptible to one day being disrupted by a better, more energy efficient cryptocurrency or technology.
At that point what is a bitcoin worth? Probably nothing.
From an investment perspective, my personal view is that bitcoin itself is really just a commodity given its limited supply. But as a commodity, a bitcoin has no real utility outside of being a digital store of wealth. If there is a better store of wealth one day, then funds will flow out of bitcoin to the better option, and bitcoin effectively becomes worthless. That is the biggest risk with bitcoin in my view.
In the meantime, bitcoin remains the biggest name in cryptocurrency. So, for the foreseeable future it appears likely that more and more money will flow into it. If demand for bitcoin exceeds the supply, then this will force the price up. If bitcoin eventually becomes mainstream, then that is likely to translate into huge demand pushing prices to much higher levels. Recent reports that Amazon are preparing to take bitcoin as payment indicates that it is well on its way.
That’s the conundrum with bitcoin. As volatile as it is, the price will probably reach many multiples of its current price in the years ahead. However, you need to be forever mindful that bitcoin has no inherent underlying value or utility beyond being a digital store of money. If there are better and more popular cryptocurrencies that emerge in the years ahead then funds will flow out of bitcoin and the price will go down dramatically.
In my opinion, the probability of this eventually happening make it too high risk and speculative for most long-term investors, including myself. However, I do think that cryptocurrencies and their associated technologies more broadly do have huge potential and will provide very interesting potential investment opportunities in the near future. I’ll write more on these in due course.
This information is of a general nature only and may not be relevant to your particular circumstances. The circumstances of each investor are different, and you should seek advice from an investment adviser who can consider if the strategies and products are right for you.
Historical performance is often not a reliable indicator of future performance. You should not rely solely on historical performance to make investment decisions.