The increasing size of the digital asset has made it a serious contender to the traditional currency decline tool.
How to explain Bitcoin?
As John Authers, British finance pundit who spent nearly three decades as a press reporter at the Financial Times, before moving to Bloomberg in 2018 said a few weeks ago, it was difficult to get rid of digital currencies. like a classic investment bubble because it, unlike any other crazy currency in history, saw similarly horrible price increases, it formed a series of bubbles, breaking apart. and then re-executed. Not like these bubbles: They are bursts so large that they cannot be gently deflated and must burst, never return.
Bitcoin has many symptoms of an economic bubble, led by sheer excitement it inspires believers. But it’s hard to say how much Bitcoin is worth. Like gold, value is in the eyes of the viewer. It has no intrinsic value, and while the same is true for paper money, it has no government behind it.
A lot of people are grappling with the same problem, and the best Bitcoin’s value can stem from its absence. To see how this works, take a look at the strange relationship between gold and a treasury bond, in the chart from Gavekal Research. Generally speaking, treasury bonds beat gold when people are not too worried about inflation, gold wins when there are concerns about inflation. Except for now, both are declining.
This is happening despite the widespread belief in the new wave of inflation growth and a substantial amount of historical money, often inflation, as illustrated here by M2’s growth.
Gold is often seen as a hedge against inflation, but if we value it instead in terms of silver, we find that its price has almost halved since the Covid-19 crisis of last year. Gold has been more and more expensive than silver since 1980, when the prices of both precious metals increased. Last year saw a spike and then a reversal for the ages.
So what drives the price of gold?
BCA Research’s Dhaval Joshi offers another idea. The following chart shows three centuries of the gold / silver ratio. Relationships were stable until belief in the gold standard ceased and then collapsed after World War I. For decades, the soft gold standard of the post-war Bretton Woods deal, this rate has returned to its old level, only returning to its highest level after Bretton Woods broke 50 years ago.
Joshi argues that demand for gold is greater than silver is fueled by its perception as a superior “anti-fiat” asset. If people are worried about the long-term purchasing power of government-issued currencies, they will be willing to pay more for gold, as a store of value. So how do we explain the sudden drop in the price of gold relative to silver last year?
Joshi’s argument is that Bitcoin has risen as an anti-fiat alternative. It has gained popularity because liberal anti-government ideals have been with cryptocurrencies since its inception. Bitcoin’s scaling up to be more known and easily earned makes it a much more viable competitor than gold.
There is random evidence that some money has flowed directly from gold into Bitcoin. The following chart is from Charles Morris of ByteTree Asset Management, showing inflows to hedge funds holding both since May of last year.
Not all of the money left over from gold has been converted to Bitcoin, but a large portion already does. Institutions appear to be making a decision to allocate some of the money into Bitcoin as a hedge against fiat collapse (another key destination that appears to be Chinese bonds). Bitcoin’s strength over the past few months has come despite a marked drop in Google searches, which can be seen as a representation of retail interest or the kind of excitement that often accompanies a bubble.
Bitcoin’s performance over the past year is directly in line with the movement of bond yields. When yields go up, so does Bitcoin. This implies that the digital currency benefits directly from “trading on inflation expectations” or the belief that inflation is coming. And to be clear, before anyone accuses me of chart crime, this has two scales. Bitcoin tends to be much more volatile than treasury bonds. The problem is that both move in the same direction at the same time.
A more scientific analysis by research firm Quant Insight shows that bitcoin’s primary sensitivity is to inflation breakeven points. The same is true for gold. Currently, Bitcoin is positively correlated with breakeven points, up as inflation fears increase, while gold is inversely correlated.
Adding another layer, ByteTree’s Morris suggests that Bitcoin is operating like a bull market stock, and gold has never done it:
“Bitcoin seems to have it all. It’s one of the few assets that seems to benefit from rising bond yields, which we stockpile for real growth stocks and stocks whose cycles are recovering. In contrast, this is often detrimental to low-growth traditional safe assets such as gold, defensive yield stocks and bonds. Unlike bonds and defensive stocks (which are shares of businesses whether the economic cycle goes up or down, they still bring stable income, because the products and services they provide are less tolerant. (affected by economic conditions), Bitcoin and gold are both sensitive to inflation, but gold hugs are happiest when the world faces a downward spiral. In contrast, Bitcoin prefers a stronger economy, when interest rates rise. This is where we are today ”.
As a result, Bitcoin’s current momentum looks like an attempt to protect against currency decline, by means of a measured transfer from gold, which is considered a weaker anti-fiat asset for the time being. Bitcoin’s recent pause (at a level where its price is still twice as high as it was earlier in the year) coincided with a pause in the bond market, which appears to have preceded itself. The 10-year real yields have basically shifted sideways for more than a month, since their massive gains ended in late February.
If this is what motivates people to buy Bitcoin, with a rise in fear of decline and inflation justifying its sustained recovery after the crash, then the correct question is should we value it. how is it. Joshi looks at the value of an anti-fiat asset as tied to its ability to avoid massive losses. Gold can also be drastically depreciated, but there’s nothing like the massive losses Bitcoin periodically inflicts on its holders before rising again. When the price drop of Bitcoin tends to be more than three times larger, the risk can be balanced by holding three times as much gold as Bitcoin, which means buying more Bitcoin.
Is Bitcoin really a direct substitute for gold? That is a difficult question. I’m writing this article with a very small piece of gold around my ring finger. I am confident that I will never exchange my wedding ring for one made of Bitcoin. Gold has at least an intrinsic use as the raw material for much wanted jewelry. Bitcoin is very simple to fall back on. Formal action can easily restrict the use of digital assets if it is large enough to challenge a government’s monopoly to issue currency.
One final problem as gold is that there is very little to hold. Yes, there are several measures that could justify a price increase. Bitcoin has been cleverly designed so that the supply will decrease over time and thus the falling price will reduce the incentive to spend money on increasing the supply. Network effects can also make currency more useful, the more applications are developed and the faster and easier it can be used, the more viable it becomes a viable currency. But it is still not profitable when comparing it to other assets. The fact that it continues to be susceptible to major crashes disrupts its use as a medium of exchange, while ensuring that it continues to be an unreliable store of value.
The technology that underpins Bitcoin and other cryptocurrencies continues to grow. Like lasers, in its early days as a “problem finding solution,” cryptocurrencies and blockchain can solve all kinds of problems for us. This is a reasonable, if not one, hope that can be held back and priced with discounted cash flow analysis.
Currently, Bitcoin meets the demand for a wide range of alternatives to fiat currencies at a time when many are deeply skeptical of monetary policy, while promising an interesting type of growth that Technology stocks have ever done. It is conceivable that there will be widespread demand for such an asset. And while that demand is strong, it’s backed by another universal force in the market, Fomo. However, if the restructuring fails, then another Bitcoin dump could be faced.
The article was re-compiled from journalist and financial expert John Authers on Bloomberg. It is for informational purposes only, not investment advice.