BITCOIN – 5 TIMES A CHARM

If you’re new to 5 Minute Finance, we’d suggest you read these four articles first (if you’ve got the time). It will help what comes next make a lot more sense

Bitcoin – Part 1 can be found here
Bitcoin – The Second can be found here
Bitcoin – Section 3 can be found here
Bitcoin – A Tetralogy can be found here

Hi team,

We started writing today’s note but it got way too long to be truly 5 Minute worthy. And we don’t want to bore you. But we also don’t want to keep writing about Bitcoin every day. There’s too much other real finance stuff going on for that. But we also need to close this topic out. So conflicted. What to do? This.

There are three sections below. “The Summary is This” which is our traditional 5 minute yarn. After which we’ve also included “A Little Bit More”  which has lot more detail if you want it. We wrote it, so we think it’s worth reading, but you do so at your own risk. Finally, there’s “Here’s a Story” at the end.

The Summary is this
The technology behind Bitcoin is so unbelievably clever it’s not funny. Over the next 5-10 years you should expect a whole ecosystem of technologies to spawn, which are based on the blockchain concept. Further, we fully expect that governments overtime will turn our currency into a digital one. We are already moving towards a cashless society, so putting our currency into the blockchain is a very logical next step. In fact, like one our readers pointed out, they have already hinted at it (see here).

So the blockchain rocks. Woot Woot. Bitcoin does not. It’s getting a lot of airplay at the moment, because of the technology behind it and so it should. However, Bitcoin has no intrinsic value. And that is a super important thing that you must understand. Bitcoins cannot be eaten, drunk, worn, slept with or lived in. And the government will not accept them as a form of payment either. It only has value because a certain group of other people believe it has value, and we’ve discussed them previously: Libertarianscriminals, people who want lower processing fees, the Chinese who are trying to get money out of the country and speculators.

However. China is closing down Bitcoin exchanges (see here). Governments are getting better at tracking criminals who use bitcoins to launder money (see here). The value of a Bitcoin fluctuates a lot and often which makes it difficult for business to accept it as a form of payment. There’s also the fact that the government needs to control the value of our currency so as to manage the economy, which may mean they will crack down on Bitcoin should it get to much use (just like what China is doing right now). When you combine all of that with the fact that Bitcoin has no intrinsic whatsoever, you should at least start to question whether buying Bitcoins is really such a smart idea.

Having said all of that, in the short term, Bitcoin may very well go up. And if you like to gamble, throw some money in. But only a little bit and only what you can genuinely afford to lose. Because what you’ll be doing is speculating, not investing.  For you to make money buying Bitcoin, you have to rely on the fact that other people are going to want to buy it after you and at a higher price than you paid. And maybe they will. Just like the Dutch did with Tulips in 1600’s.

In the long run we strongly believe that Bitcoin will fall to the wayside as governments themselves transform their own currencies into cryptographic ones. Will we be right? Only time will tell.

And that’s 5 minutes. Hope it helped. 

A little bit more
Why businesses in general cannot adopt Bitcoin 
Imagine you’re a business owner. And your business is selling cars. You have expenses, like wages, rent, tax and the purchasing of cars in the first place, all of which must be paid in Australian dollars. That’s not a problem, as all of your income from selling cars is in Australian dollars as well. In financial speak, we’d say you have no currency risk. It doesn’t matter whether the Australian dollar goes up or down, your income and expenses will remain unchanged. Sweet as bro. Enter Bitcoin.

The cost of a single Bitcoin frequently fluctuates in meaningful ways. During a week in August Bitcoin surged 20%. In July it jumped 15% in a single day. On Monday, it fell 8%. June last year it fell 25% in a week.

Anyway, back to your car business. Knowing that the value of a Bitcoin is inherently unstable, would you be willing to receive Bitcoins as payment for your vehicles? That’s a lot of “currency risk” you’d be taking on. The optimist in you would think, ‘what if it goes up, I could make a fortune’, which is fair. But what if it falls? You’ve bought the car for 20,000 Australian dollars and then sold it for 5 Bitcoins, which at the time were worth 5,000 Australian dollars each. So you receive 5 bitcoins which are worth 25,000 therefore you’ve booked in a profit of 5,000.  Or have you? You still have to sell those bitcoins so you can pay for all your other expenses which are paid in Australian dollars. What happens if the value of a Bitcoin falls 10% before you do? Your 5 Bitcoins are now worth 22,500 and your profit has halved. That sounds pretty risky to me.

And aside from not understanding what a Bitcoin is, this is one of the fundamental reasons the majority of businesses do not accept Bitcoin. Conceptually, businesses should love it. They really should. Like we’ve said previously, transacting in Bitcoins substantially reduces transaction fees, which is great. But Bitcoin moves around way too much for any rationale business to start accepting it.

Should the government turn your currency into a blockchain currency though, this issue would be eliminated. The currency risk element would disappear and business adoption would be massive given the significant reduction in transaction fees. Long term, this will be bad news for companies like Paypal, Visa, Mastercard and AmericanExpress who’s entire business model relies on collection these transaction fees.

Criminals love it, but it’s getting harder for them
Criminals LOVE bitcoin. Like we said previously, it is the perfect currency for crime. You trade under a pseudonym and setting up an account requires almost no identification.  This makes it very hard for the authorities to find you. But not impossible. Remember, Bitcoin is not currency, it is a piece of technology. And that technology is essentially a historical ledger of every transaction which has ever occurred, in the order that it occurred. And that ledger is on 1,000’s of computers all over the world and it is publicly available. Tech-heads are starting to work out how to harness that fact to glean more information off transactions and ultimately work out who is behind them. Don’t ask us how, but they can. At the same time though, the criminals are working on better ways to keep themselves anonymous. And they are still ahead of the authorities, but for how long, who knows.

The point being, Bitcoin is still great for funding criminal enterprises. However, it’s not as good as it used to be and it’s only going to get harder.

Here’s a story.
Jason and Bourne (yes, it can be a first name) both run highly successful cafes. And each loves to visit the others. Jason can’t go past Bourne’s famed avo-smash and Bourne is all over Jason’s Mocha-Choco-Lata-yaya. So much so, they are literally in each other’s places daily. One day Jason says to Bourne, ‘mate, money keeps going back and forth between us, why don’t we each just put 100 bucks into a shared account, and rather than me paying you and then you paying me every day  we’ll just track who owns what in a spreadsheet’. Bourne thinks about it for money, and says ‘dude, great idea. But you set it up. I can’t be f*u**ed’. ‘Sweet as bro’ replied Jason, ‘we’ll start it from tomorrow’.

And so they did. Each put in 100 dollars and each was given 100 ‘units’ in return.

Everyday Jason would go home and update his spreadsheet with entries like “Jason owes Bourne 15” and “Bourne owes Jason 11.5” and then send the spreadsheet back to Bourne to confirm. This went on for some time, until their friend Matt the mixologist caught wind and wanted in. Matt said ‘my brosephs, I want in’. ‘Why?’ asked Jason. ‘For the same reason man. You guys are drinking at my bar every day, and I’m eating at yours just as often. It just makes it easier for all of us and means we don’t have to keep transferring cash’. Matt’s point was a sold one and so Jason and Bourne brought him in. Matt paid 100 into the kitty and was promptly given 100 units.

And over the following months more and more people got involved with the spreadsheet and by the end of the year there was nearly 100 in the system. Each having paid 100 dollars for a 100 units. The spreadsheets were sent around daily to everyone for all to confirm they looked good. Things were working great.

Sadly though over this time, Matt’s business had fallen on hard times and his husband, the money grubbing basta** that he was, up and left, taking their three dogs with him. Distraught, he needed a break and decided to close down his bar. So for him the spreadsheet was of little use anymore. He decided he would cash out. But no one within the system would buy his units from him. This was a problem.

The only way Matt could get money out of the system was when a new person asked to join. So Matt went looking. Actively. And successfully.

And Matt was clever. Rather than selling all his units, he only sold a portion of them, but at a higher price.  Matt sold 50 of his units for 100 dollars. And so it began….

Going forward, rather than issue new units to people, everyone using the spreadsheet agreed that for someone new to enter, they would have to buy existing units from someone else in the system.

At first things started slowly. 1 unit cost 2 dollars (rather than 1 when the spreadsheet was first created). But now the existing holders of units realised they could make money by selling their units for a higher price, they started to market their spreadsheet hard. “The spreadsheet is the greatest thing every made“. “It is revolutionary they would say“. “It makes you run higher and jump faster“. “Spreadsheets are the new superfood” They took out full page adverts in their local paper and radio ads during the ‘love hour’ evangelising the spreadsheet and the units themselves.

And the marketing worked. People wanted in. And the more people wanted in, the higher the price would go. First to 3 dollars, then 10, then 100! At 100 dollars, one of the national newspapers took notice and wrote an article about a new potential investment opportunity, one which has already gone up by a factor of 100 in just 6 months.

A factor of 100?! In 6 months? Now the speculators got interested. If it can go up 10 times in just six months, imagine what could happen in a year. And so the money flowed in. 200 dollars a unit, 500 dollars a unit. 1000 dollars a unit! Everyone was making money. So copycat spreadsheets started popping up all over the place. The best thing since sliced bread they would say.

Meanwhile, Jason, Bourne and Matt were long gone. They have closed down their shops, sold all their units, bought boats and now just giggle at the price rise.

Then end.



Categories: Bitcoin

Tags: , , ,

Leave a Reply

Fill in your details below or click an icon to log in:

WordPress.com Logo

You are commenting using your WordPress.com account. Log Out /  Change )

Google+ photo

You are commenting using your Google+ account. Log Out /  Change )

Twitter picture

You are commenting using your Twitter account. Log Out /  Change )

Facebook photo

You are commenting using your Facebook account. Log Out /  Change )

Connecting to %s

%d bloggers like this: