By Sergey Vasin
June 5th, 2018

Lambo Index

How bitcoin won as an asset class and lost as a currency

Lambo Index

By Sergey Vasin
June 5th, 2018

How bitcoin won as an asset class and lost as a currency

April Fools’ Day joke by Coinmarketcap might not be that funny.Bitcoin lost. This is final. Great expectations of a decentralized currency fell victim to human greed. Is it bad? Probably, yes. Will crypto cease to exist? Definitely not.
Bitcoin was introduced as a peer to peer censorship- and government-free means of payment based on the blockchain technology. This technology made any monetary interventions and capital flow restrictions impossible. Bitcoin supporters nicknamed it “digital gold”. The first 50 bitcoins were mined on 3 January 2009.
Fast forward to present day, Bitcoin has become an asset class. We buy and sell it for profit. Just like we don’t use physical gold as money any more, bitcoin is not the currency it was supposed to be. The North American Bitcoin conference didn’t accept Bitcoin as a means of payment.

According to textbook macroeconomics, to be money an asset should be:

  1. Medium of exchange. Meaning that you can buy and sell goods and services for it.
  2. Unit of account. Meaning that you can measure your wealth in it.
  3. Store of value. Meaning that the value should remain (relatively) stable over time.

While neither gold, nor bitcoin meet any of these criteria, let’s focus on the last one.
Amid the massive cryptocurrency meltdown that we experienced this year, Bitcoin lost as much as 65% of its value. That being said, in 2017 it posted returns as high as 1,839%. While such swings alone are eye-popping, let’s put it into perspective.

It’s obvious that you cannot store value in Bitcoin. In December 2017 Lamborghini Aventador cost as little as 21 Bitcoin. On April Fools’ Day it cost 59, 2.8 times as much. If Bitcoin were money it would have been called inflation (to be precise devaluation that inevitably leads to inflation of imported goods).
It might have felt that the issue was the bear market and the price crash and that there was nothing to complain about during the great bull market of 2017. The price of Bitcoin kept growing and everybody should have been happy. From the asset class perspective, this is great. But Lamborghini-wise it was deflation.
Deflation is equally damaging as inflation for the economy. For example, Japan has been struggling to overcome deflation for about three decades, fighting discouraged consumer spending, the increased value of debt and lower economic growth rates. The main reason is that deflation hampers trade. When the goods consistently cost less than they used to do before, people have incentives to wait for their purchases, disrupting the whole idea of money as a medium of exchange.

As a result of an increased interest from the investors and new users flocking into the crypto-space the price of bitcoin skyrocketed. Most holders never thought about Bitcoin as money, they considered it an asset class. As a consequence Bitcoin become something it wasn’t supposed to be when Satoshi Nakamoto mined the Genesis Block.
If Bitcoin is merely an asset class, what are the implications? Treat bitcoin as any other investment and don’t be religious about it. For any asset class, one should follow three simple principles.

  1. Understand the difference between trading and investing. Traders are professionals that earn a living buying and selling assets. Trading requires experience, full-time commitment and is associated with trading costs that eat into the profit. Unlike traders, investors are looking for capital appreciation on longer time horizons, making trades only when they need to rebalance their portfolio. Like it or not, most people are better off being investors. This is true for traditional investments as Warren Buffet proved this year as well as for bitcoin.
  2. Set and follow the rules. Most people sell when the price already goes down and buy when the price is already up. To earn money one should do quite the contrary. There is a substantial body of research that individual investors usually fall victim to cognitive biases. This deleteriously affects their financial well being. Consistency trumps everything.
  3. Diversify. Diversification is a must for any portfolio. Unfortunately, there is no such a thing as diversification in major cryptocurrencies. They tend to rise and fall simultaneously, with Bitcoin leading the way. Adding fiat oriented assets to portfolio dramatically improves the risk and return profile for the investor. Asset tokenization which most believe to be the major area of development in 2018 would receive another boost because of this desperate need for diversification in the crypto space.

As Marc Andreessen suggested, strong opinions should be weakly held. Bitcoin is the first cryptocurrency. It introduced the concept of the blockchain. Despite the fact that it didn’t become the real currency, its proliferation as an asset class increased public awareness to such a level where financial giants such as Credit Suisse plan to introduce blockchain to their operations. Time will show whether we will witness real crypto money that could be used for everyday payments. Meanwhile, the Bitcoin will remain a bellwether for the crypto space.

Sergey Vasin – COO Blackmoon