The rise and fall and rise (?) of Bitcoin
Do you know your Bitcoin from your Blockchain? Your Crptocurrency from your Coinbase? Maybe this article will help as we look in more detail at the overall picture for Bitcoin and how to consider investing in the markets with companies that have exposure to this sector.
Companies covered include #MODE #ARB #KR1 #OBC #COIN
January 2021 has already told the Bitcoin story in microcosm: a rapid, breathless rise, followed by a sudden, jarring crash. The cryptocurrency touched heights of more than $40,000 at the weekend, before free-falling from Monday afternoon to around $30,000.
Should investors simply avoid it? Or – in these turbulent economic times – might there be grounds for keeping a close eye on the currency’s movements in case it ignites again? We simply don’t know. But what we can do is set Bitcoin’s rapid rise in the context of its brief, tumultuous history. Let’s start by taking the time to look at what Bitcoin, and its associated technology, Blockchain, actually are.
Explaining Bitcoin and Blockchain
The fundamental architecture of the Bitcoin currency and the Blockchain mechanism used to verify it was established by the enigmatic contributor to cryptographic online forums known as Satoshi Nakamoto. In October 2008 Nakamoto revolutionised the nascent cryptocurrency world by uploading Bitcoin: A Peer-to-Peer Electronic Cash System, a brief nine page white paper that set out the conceptual framework for a self-regulating digital mode of exchange.
The paper proposes a digital coin – effectively series of numbers on a computer screen – that can be exchanged with other holders through a peer-to-peer network and used to buy products, services and mainstream currencies by merchants willing to accept it. Each transaction is recorded in the ‘Blockchain’, a publicly available ‘distributed ledger’ that serves as a digital record of all the Bitcoin transactions – called ‘blocks’ – that have ever been exchanged. Each block, a unique string of randomly generated characters, preserves the anonymity of the coin’s buyers and sellers. But because each new transaction increments the previous succession of exchanges every exchange can be mathematically verified. In other words, the Blockchain maintains a single common record of all Bitcoin transactions, against which new exchanges are verified.
The Bitcoin community verifies each new transaction itself – without recourse to the authority of third-party financial institutions – drawing on the computing power of the network to add each new exchange to the ledger. New coins are minted – or in Bitcoin parlance ‘mined’ – in the course of the verification process: when a new exchange is verified fresh coins are awarded to those users willing and able to make available the calculating firepower necessary to validate new transactions and add them to the ledger. To preserve the currency’s value, the white paper specified that only 21 million coins should ever be mined, although each coin can be divided out to eight decimal places allowing fractions to be purchased.
Nakamoto, which may be a pseudonym for an individual or group still active within the Bitcoin community, was last heard from in 2010. But his brilliant paper left an elegant blueprint for a radical new system of exchange, allowing individuals to conduct exchanges and enforce contracts without financial or legal intermediaries.
Technology writer Adam Greenfield offers a lucid example of the Blockchain’s profound potential for revolutionising our customary understanding of money and contracts in his book Radical Technologies. Imagine a holiday-maker pays bitcoins to access a rental property for a specified number of days. Once the transaction is recorded in the Blockchain digital instructions are sent to a wireless enabled padlock to automatically release when it detects the presence of the renter’s phone, and to cease to unlatch when the rental contract expires. Other devices within the property could be programmed to act in accordance with the contract: the power supply, for example, could be cut off if sensors detect that the renter is playing music above a certain volume, or after a cut-off hour specified in the agreement. In theory Blockchain-enabled ‘smart contracts’ like these allow participants to enter into and enforce contracts without the oversight of traditional legal, financial, or state infrastructures.
For all the concept’s undoubted elegance, we are a very long way from the libertarian world of seamless transactions imagined by Bitcoin evangelists. Our public infrastructure would have to be drastically retooled to ensure sufficient devices would be able to talk to each other.
And serious concerns about the the Blockchain framework’s capacity to scale, and tendency to centralisation, would have to be addressed. As each transaction extends the Blockchain ledger, ever more computing power is required to crunch the numbers. Vast Bitcoin mining data centres are already leaving significant carbon footprints. The sheer computing power required to mine new coins means only a few network participants have the facility to generate new coins: there are already concerns about the concentration of power in a cluster of giant Chinese Bitcoin mining operations.
An incendiary speculative investment
Despite these concerns Bitcoin has gradually established itself as a viable online unit of exchange, achieving a notable breakthrough last October when PayPal recognised it as a legitimate currency for use through the 26 million merchants on its network. And there has been a steady increase in corporate and institutional interest in Bitcoin, with fund managers and well known investors such as Paul Tudor Jones and Stanley Druckenmiller beginning to see bitcoin as a legitimate portfolio diversifier. Ruffler, the UK investment manager, put some 2.5pc of its Multi-Strategies Fund into Bitcoin last year, and there is increasing pressure in the US to allow the marketing of a Bitcoin ETF. Just last month crypto exchange Coinbase filed with regulators to go public, and there are now several established cryptocurrencies using the Blockchain protocol, including Ethereum, Ripple and Tether (Facebook dipped its toe into the cryptocurrency waters in 2019).
But for all the progress Bitcoin has made towards becoming an alternative form of exchange, it has attracted much more notice for its explosive potential as a speculative investment. In the course of its first spectacular breakout the currency’s value surged to $19,000 through 2017 before crashing to less than $7,000 by February the following year, subsiding to $3,000 by the end of 2018. The price bumped along until gathering momentum again last year, rising by more than 300pc, far surpassing the 16pc increase in Wall Street’s blue-chip S&P 500 stock index and gold’s 25pc rally. The coin’s latest rally seems to have been sparked by the possibilities a limited issue digital currency might offer as a store of value against the inflationary pressures stoked by Covid-19 economic stimulus packages, a fire subsequently fuelled by the Paypal breakthrough.
Bitcoin enthusiasts have been quick to talk up the coin’s capacity as a form of ‘digital gold’, some going so far as to identify it as one of the ten most valuable assets in the world. Bitcoin’s market cap, so the argument goes can be calculated and set against those of companies: if the market cap of a company can be calculated by multiplying its stock price by the number of shares outstanding, Bitcoin’s capitalisation can be worked out by multiplying its price by the total number of coins mined. By this logic, when markets opened at the start of the year, the total value of all Bitcoins in circulation stood at $779.6bn, above Facebook’s market cap of around $756.6bn.
Other commentators are rather more sceptical, noting that firms have real-world assets whose economic value can be analysed according to metrics such as P/E ratios, net profit, and cash flow, whereas Bitcoin’s worth is backed only by the collective faith of coin holders. Last November the prominent economist Nouriel Roubini spoke for many when he called Bitcoin ‘a pure speculative asset and bubble with no fundamental value’.
And it’s hard to disagree that a grammar of ‘assets’, ‘value’, and ‘security’ doesn’t really square with Bitcoin’s extreme volatility. The coin simply doesn’t have the liquidity of traditional assets. 18.6m bitcoins have already been mined but far fewer are actually in circulation. It is estimated that about a fifth of bitcoins may have been lost and 95pc of the remaining supply is controlled by less than 3pc of Bitcoin addresses. The Bitcoin price is set by demand for the residual supply, with little margin to buffer demand and supply when its price rises or falls.
Chris Dillow captured the paradox of Bitcoin well in the Investors’ Chronicle, noting that Bitcoin’s illiquidity, the quality that makes it such an incendiary speculative investment, also makes it bad as money, something that should be a stable store of value and an easy-to-use medium of exchange: ‘The more attractive Bitcoin is as an investment, the less useful it is as money. And, conversely, if it is to become useful as money it will lose its use as an asset offering high expected returns. Bitcoin’s advocates can tell two stories – but they cannot both be right.’
Right now Bitcoin is a sentiment-driven asset rather than a value-driven one, its price depending very much on investors’ opinions, rather like fine art. To become a real competitor to gold or commodities Bitcoin needs a much deeper and more liquid market.
How to invest in Bitcoin
The debate about Bitcoin’s long term value seems set to run for some time. But just now the brute fact remains that it is a speculative investment capable of delivering superlative returns for those able to time their transactions well, whether by luck or judgement. And despite its wild fluctuations, a bitcoin holding worth £100 at the start of 2015 would be worth more than £10,000 today (though that could change tomorrow). Although Bitcoin has fallen back over the past few days the rally may resume as the pandemic’s persistence obliges governments to continue to spend to keep economies on life support.
Prospective investors have a few options. The most straightforward is to simply buy bitcoins directly through a credible digital currency exchange like Coinbase, which has been licensed by the UK’s Financial Conduct Authority. Buyers simply create an account, enter a payment method, and after proving their identity with a driver’s licence or passport, can start adding the currency to a personal ‘Bitcoin wallet’. There are a few well established funds, such as the $8bn Grayscale Bitcoin Trust (GBTC) in the US, and the WisdomTree Bitcoin (BTCW), a physically backed Exchange Traded Product (ETP) designed to offer shareholders a simple, secure and cost-efficient way to gain exposure to Bitcoin’s price. As mentioned above, the US Securities and Exchange Commission is currently considering applications for a Bitcoin ETF.
Companies with Bitcoin and Blockchain exposure
But another option, of course, is to invest in companies providing Bitcoin and Blockchain services. We highlighted Mode Global Holdings (LSE:MODE) in our 12 companies to follow in 2021 roundup last week. Until falling back over the past few days in line with the coin itself, the fintech startup’s shares rocketed after launching on the LSE’s Main Market in October with a £7.5m fundraise, driving its market cap up from £40.3m to more than £50m.
Trading volumes for the company’s flagship Mode Super App, which allows users to manage their traditional and digital assets in one place have surged by more than 1500pc since August, and new users by 500pc. In first few days of January, Mode enjoyed a 40pc increase in user growth over the previous month, with its app the second most downloaded in the UK’s App Store. Mode further tied its fortunes to the Bitcoin price in October, using up to 10pc of its IPO proceeds to invest directly in the currency.
The company is clearly one to watch for readers looking for a reliable index to Bitcoin’s rising (or falling) fortunes. So too is Argo Blockchain (LSE: ARB), a Bitcoin miner that seeks to sell the coins it creates at opportune intervals.
Since shifting its focus in 2019 from providing cryptocurrency services to mining Bitcoin directly, Argo has rapidly scaled its mining capacity, increasing the machines it oversees from some 1,700 in 2018 to more than 16,000 today. The company’s exotically-named infrastructure, which includes ‘Bitmain Antminer S19’ and ‘S19 pro miners’ mining 645 ‘petahash (SHA-256)’ and 280 ‘megasols of equihash’, is located at three Canadian locations, the largest being a 40,000 square foot facility in Northern Quebec with 15 megawatts of capacity.
The £15m investment in mining infrastructure saw the company’s revenue increase from £0.76m to £8.6m in 2019. Like Mode Argo’s share price soared through 2020, rising 1,765pc to touch levels above 145p at the start of January, before falling below 100p, bringing its market cap to just below £300m. Argo’s increased capacity to mine coins detailed in its most recent operational update – as of 5 January the company held 209 bitcoins worth £5.7m and is expecting 4,500 new computers to come on stream in February – makes it highly sensitive to movements in the currency’s price.
KR1 (AQSE:KR1), listed on the Aquis Exchange, seeds funds to early-stage blockchain-based companies, which it holds as private equity. The company has a particular interest in the Ethereum cryptocurrency and the Polkadot Blockchain architecture. Following solid growth last year KR1 was admitted to the Apex Segment of the AQSE Growth Market last month, the market for companies with a minimum market capitalisation of £10m. Like its peers KR1’s share’s soared last year rising from around 6p in August to 40p at the start of the year taking its market cap to £51.6m, before falling back this week.
Online Blockchain (LSE:OBC) offers cryptocurrency services within the ADVFN Plc financial information platform: the company is led by ADVFN co-founders Clement Chambers and Michael Hodges. Online Blockchain’s products include a crypto coin called PlusOneCoin, which can be used to upvote contributors to ADVFN’s bulletin boards. The company also offers the PTC Network service which places paid-to-click Blockchain advertising. Online Blockchain has also ridden the Bitcoin wave, its shares rising 257.8pc in 2020, taking its market cap to £8.5m.
COIN (AQSE:COIN), is also of interest. Coinsilium is a focused Blockchain, DeFi and Crypto Finance venture operator. As the first ever IPO of a blockchain company in 2015, Coinsilium has harnessed its experience and wide-ranging network to invest in leading blockchain projects such as RSK/IOV Labs, Indorse and Blox.
In July 2020 Coinsilium executed an agreement with global blockchain protocol company IOV Labs, to establish a 50/50 Joint Venture Company in Singapore to promote and commercialise RSK’s products, services and technologies in the Asian markets and to promote the adoption in the region of the RIF token which powers the ecosystem of solutions developed by RSK, their partners and developers around the world.
Keep watching the stars…
2021 is only a few days old, but Bitcoin already seems too volatile to touch. But there are intriguing signs that the currency is maturing. Although technological libertarian dreams of a smooth world of seamless Blockchain-driven contracts still seems like science fiction, Bitcoin is fighting hard to establish itself as a means of exchange that might take its place alongside, rather than in place of, established currencies. And continuing pressures placed on conventional money by the economic response to Covid-19 means that Bitcoin’s most recent spike may not yet quite by over. Watch with caution, but keep watching.