Why I am Not Investing in Bitcoin

What is Bitcoin, Cryptocurrency and Blockchain?

Bitcoin and other cryptocurrencies are a type of digital currency that is “mined” using computers. These computers use time and energy to decipher algorithms which lead to coins circulating into the currency. Some types of coins, like Bitcoin have a fixed number of coins that can ever be mined while others are limitless. As more coins are mined, the next coin becomes harder to mine, and it will take more computer power to find.

Blockchain is a new technology that has come from Bitcoin and it is essentially a record of transactions of every bitcoin. This list of transactions is an evolving record and is added to simultaneously with any transaction. This means that anyone can see any transaction. The value of this technology is that it is decentralized, and no one really controls it. There is nobody to profit on the movement of value and it should create a more efficient market. However, central banks and financial institutions around the globe are beginning to develop their own technology. It will help these institutions become more efficient, and they hope to better serve their clients.

Why I am not investing

Bitcoin and other forms of cryptocurrencies are a bubble. Because of this, I will not invest in them. The long-term outlook of Bitcoin and other cryptocurrencies does not seem great to me, and I will explain why.

The Anatomy of a Bubble

According to James Montier, in his article Behavioral Investing: A Practioner’s Guide to Applying Behavioral Finance, there are five stages of a bubble, and I believe we are currently in the third stage. The five stages are: displacement, credit creation, euphoria, financial distress, and revulsion.

Displacement

Displacement is a market reaction that creates profitability in one area, while shutting down profitability in other areas. Now, this does not have to actually occur to begin a bubble. The perceived idea that it will occur in the future is what starts the bubble. The Dot Com bubble started because the internet was going to revolutionize the way that people do business. The same can be said for Bitcoin. It may one day revolutionize the way people exchange money, but how? Like the Dot Com bubble, investors are throwing money into cryptocurrencies without really knowing the magnitude of change it will create.

Along the lines of not knowing the magnitude of change is the fact that these currencies are unregulated. At any time one government or another can setup laws that either hurt the viability of the currency, or outright ban it. A popular conception of cryptocurrencies is that they are used to exchange money without any government intervention or insight. They are used to launder money or exchange illegal goods on a black market behind the backs of regulators and law enforcement. All it will take is enough bad press of the currency for law makers to act on it. When ransomware thieves around the globe are asking to be paid in Bitcoin, politicians will eventually denounce the currency to win more votes.

Credit Creation

This stage of the bubble is formed when there is monetary expansion and/or credit creation. This fuels the fire, and causes the bubble to inflate. As more money is thrown into the asset, prices go up. As prices go up, it fuels even more expansion because people are seeing great returns and want to get in on the action. It is a self-fulfilling prophecy.

Currently, United States investment assets are inflated, especially in the bond market (read “Unintended Consequences of Easy Monetary Policy“). Highly liquid markets fuel asset bubbles, and in this case, they are also fueling Bitcoin. As investors have more money to invest, they need to figure out where to put it. If they cannot find an asset that looks great because valuations are so high, they turn and look at Bitcoin and think “Wow it has returned 2, 3, 400%, I want in!” This in turn raises Bitcoin prices and makes another investor put their money in too. This is the self-fulfilling prophecy. Investors perceive the asset as being a good investment when really it just the demand for the asset pushing prices up, not value.

Euphoria

Euphoria is the third stage of the bubble, and I believe Bitcoin is in this stage. This stage is when the returns of the asset are so great that people invest because of the fear of missing out. Their friends tell them that they made all of this money in Bitcoin, they see charts popping up on their newsfeeds that say “If you invested $10k 7 years ago, you would have over $700 million…” This inflates the bubble. People see these images and get upset that they have not already invested. $10k into $700 Million? Who doesn’t want a piece of that action?

Another euphoric characteristic of cryptocurrencies is that every company seems to want their own. Companies are having ICOs, or initial coin offerings, where they start their own cryptocurrency and raise money through the offerings. Burger King released a version of cryptocurrency called the WhopperCoin. This is just like the Dot Com bubble. “Companies” opened a website and went public. Investors threw cash at them simply because they had a website. The same is happening with these ICOs. Investors are throwing cash everywhere with the hope that one of them will be the next Bitcoin and turn their $10k into $700 million.

Financial Distress and Revulsion

These are the last two stages of a bubble. Financial Distress is characterized as insiders see the end is near, and they start to get out. They sell their shares because they know they are not sustainable, and that share prices are going to fall. I am not aware of insiders of Bitcoin, but eventually people are going to cash out, and it is going to cause enough damage to scare everyone out of it. This will cause a spillover into the other types of cryptocurrency, and only the very strong will be able to survive.

Revulsion is when people are hurt by the bubble popping. They are hurt so badly that they refuse to go back into the investment, even if it becomes a good value. This is the final stage of a bubble.

Some readers may be thinking that the I am wrong and that this will change the future. Bitcoin and cryptocurrencies will change the way people pay for groceries, pay for movie tickets, and pay for their Amazon orders. They may not see or they simply ignore the similarities of Bitcoin to the Dot Com bubble. Well here is my rationale on why a global currency, without the rule of government, will not occur.

Future Global Currency?

If you were to ask me while I was taking my college economics classes “What is the quickest way to make markets more efficient?” I would have told you a global currency. A global currency would get rid of exchange rates, it would make transactions a lot easier, and it would make investing easier as well. It makes markets more efficient because there is no reason to worry about exchange rates. You would be able to go to any country and spend the same currency as your home country. It is like having a Euro in the Euro Zone, but for the entire world. The problem with the Euro however, is that some countries want a strong Euro while others want a weak Euro at the same time. If the Euro was not competing against other currencies, none of that would matter though. You would also be able to order anything online from anywhere, and not have to worry about exchange rates. Have you tried to order something you had to pay for in a different currency? It is intimidating and it will usually cost you extra money in fees.

It would make investing easier as well. A global currency means that you do no need to worry about exchange rates and revenue return. Suppose a company is in a US Dollar strengthening environment. As the dollar strengthens their goods become more expensive. The exchange rate works negatively in their favor, and it reduces their returns. the company either leaves prices the same, and sell less, or they lower their prices and their margins take a hit. Either way, the company loses revenue and their balance sheets weaken. The current monetary structure requires analysts to determine the future strength or weakness of the currency, and how that will affect revenue streams. A global currency can eliminate this. So with all the good a global currency can achieve, why won’t we have one in the near future?

If there is anything the recent Brexit vote and election of President Trump have taught us is that people do not trust immigrants, foreigners, and globalization. Books can be written, and many have been, on why these are all important and good factors to a capitalist economy. However, not enough people understand, or want to understand how these help. Because of this, a global currency cannot be achieved.

A global currency would have to be run by someone. It would require a panel of people from around the world to make monetary and policy decisions. There is enough people that feel the United Nations, NATO, and International Monetary Fund do more harm to their country then good. They have elected a president that threatens to restructure, leave, or pull funding from these organizations. They see globalization as a bad thing, so how could they ever go for a global currency? Simply put, there will be foreign people making decisions, and because of this they will never trust it.

The Future of Bitcoin

Left unregulated Bitcoin may stay around, but only to fill a niche market of money laundering and black market deals. Once it is regulated, it is hard to see what it becomes. It may become an internet currency, where users can only purchase these coins to do a transaction, but most of their funds remain in a normal currency.

Blockchain, on the other hand, will stick around. The technology is already being invested in by most big banks, and even the Federal Reserve. This tool will make financial institutions much more efficient. If it can be properly implemented, bank processes will be cut down. This will save time, and hopefully keep extra dollars in their consumers accounts.

Thanks for reading and happy trading!

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Submitted November 05, 2017 at 07:39PM by BR-Technicals http://ift.tt/2zfTwqq