Bitcoin Madness: Missed the boat already or time for a new era?

Disclaimer: The below article does not offer investment advice. Michael owns a small amount of crypto purchased via Coinbase.

TulipsIn 1630, the Dutch imported tulips from Turkey. Beautiful flowers as they are, tulips began to become popular in Holland.

The Dutch started paying a premium for owning those rare flowers. But after a while, a virus hit the flowers changing their appearance and giving them ‘flames’ in colour. This helped to increase the price of the flower.

As a result, more and more people started paying multiples of the initial tulip price. Governed by the fear of missing out, people started selling their assets to buy tulips. This resulted in an extreme boom for the tulip price which was once sold for the price of a luxury home (!).

Since no one was willing to pay more for a single tulip, a decline followed. The madness had to stop. People started selling their tulips in a frenzy mode and despite offering lower prices, no buyers were willing to pay any higher for a flower. Fortunes were lost in the so-called “Tulipmania bubble”.

This story my friends reminds me of today’s crypto-world. We see an extreme increase in the price of digital coins which were once trading for next to nothing. If I remember right, one of the first transactions were two Papa John pizzas bought for 10,000 bitcoins – $80 million dollars if the pizza boy held on their bitcoins!

Bubbles usually occur when people don’t look at the intrinsic value of the asset. They buy assets simply because they’ll definitely sell it soon to other people for a higher price. It always goes up after all!

If you’re interested in economic bubbles, like I am, have a read of the South Sea bubble (1711), the Florida real estate bubble (1929) or look no further than our own 2008 mortgage-backed securities 😉

But let’s take it from the beginning.

What is Bitcoin?

Back in 2008, our wonderful banking system failed us all. This led to a financial crisis that was so strong people lost faith in the system.

Bitcoin logoAnd a new crypto-world emerged from that. Satoshi Nakamoto created a digital coin called Bitcoin. It’s worth mentioning that nobody knows if Satoshi is a real person, a team or a mysterious nickname. As the legend has it, Satoshi remained anonymous similar to how anonymity is preserved when making Bitcoin transactions. See what they did there? 😉

So Bitcoin is a currency living on the internet and can be traded globally almost for free. A businessman in the US can send bitcoin money to some Lithuanian software developer instantly and without costs.

This strong network of computers around the world operates these transactions and anyone can join. Those computers are called miners. They also help discover new bitcoins by solving complex math problems. For mining and for helping with validating transactions, miners are rewarded with Bitcoins.

Blockchain is the technology behind Bitcoin, and you can think of it as the history of all transactions that have ever happened. Every computer in the Bitcoin network knows about all the valid transactions that took place and will be stored there forever. If you think about it for a while, you can find other interesting use cases, apart from money. Storing, for example, all the legal transactions between property owners!

Why Bitcoin?

Since everyone buys and sells in bitcoins there is no need for foreign exchanges, middlemen and more importantly, failing banks!

When sending money across the globe, and especially small amounts the fees are so high that is really not worth doing. Bitcoin can be traded around the world very cheaply and everyone can hold the same currency.

Bitcoin, also, cannot be controlled by any government. The amount of GBP (£) floating around in Britain is controlled by the central bank.

A committee decides whether we should print more or less money depending on the current economy. Here’s an excellent video on how the economic machine works by Ray Dalio. You may have heard of “The Fed” in the US which is really controlling these complex monetary policies.

The central bank also operates fractional banking. This means that they only hold a small percentage of your customer deposits, say 10%, and they lend your other 90% to people and businesses in order to boost the economy and make profit.

With Bitcoin, THERE IS no government! Noone says we should create more bitcoins and inflate or deflate the currency. More coins are created in a stable and predictable way according to a predefined algorithm that cannot change.

only $21 million coins can ever be created! Sort of like… Gold

Which is what drives people crazy. If there is a limited supply of coins, each coin will be extremely valuable if the demand increases.

Speaking of gold, gold is a precious metal that so many generations have used to store their wealth. Because of its physical nature and limited supply, gold can preserve its value over time.

During 27 B.C, Roman Centurions were paid around 40 ounces of gold per year.40 ounces of gold today is worth around $46,000 – the equivalent of what a US Army captain is paid today! Same amount of gold 2,000 years ago, same amount of gold as salary today.

People call Bitcoin “digital gold” because it has similar properties and can also be traded on the internet.

So there you have it. Cryptocurrency is becoming more and more popular today. One global currency, history of all transactions, decentralized nature without governments involved and no bank fees.

Everyone says Bitcoin is a bubble

Things become more interesting when the value of the recent cryptocurrencies is going crazy. In October, a single Bitcoin was worth $7,000, in November it’s worth $11,000!

Had you bought $100 worth of bitcoins in 2010, you would now be $75 million richer 😉

In fact, the volume of crypto transactions has become so big that CME, a big financial organization announced it will soon allow Bitcoin futures trading on its platform. NASDAQ, the famous stock exchange will support Bitcoin futures in 2018 too.

Of course, whoever states this doesn’t say the obvious: You should hold onto your bitcoins throughout these years to realise some gains. It must have been so easy to sell your bitcoins for a loss, let’s say in 2014 when for many years nothing is happening.

Bitcoin bubble
Bitcoin bubble – Source WSJ

As you can see from this graph, Bitcoin’s growth makes the Tulip bubble look like a US treasury bond.

We have not seen something like this before and whether a Bitcoin supporter or not you’ll have to admit history broke a new record here.

To understand if Bitcoin is a bubble we have to see what previous bubbles consist of. The data will tell us.

Bubbles consist of 4 things:

  • Extreme increases in price of an asset (high volatility)
  • Buzz, fear of missing out
  • Euphoria
  • No real connection between the selling asset price and its true price. Would you pay £100k for a tulip?

Looks like there isn’t a better candidate than our Bitcoin version 2017. Everyone talks about it and everyone thinks it’s a bubble. So why doesn’t it burst then? This is an interesting question.

Should I buy some cryptocurrency? Maybe buy Ethereum?

The recent increases in cryptocurrency prices make it even scarier to enter the market at its peak. An even trickier challenge is to try to evaluate a bitcoin. How much should it be worth? Should it cost $100 or $100,000? Why?

How do you know if Bitcoin is too expensive or too cheap at this point to make a rational decision on whether to buy?

In case of stocks, a simple valuation would be to take its future dividends paid at present time. That’s how much the stock is worth. In plain terms, you kind of know that if the company keeps earning at this rate, you will get a share of the profits back.

A pack of tomatoes costs £2.50. If you go to the supermarket and tomatoes today cost £4.00 you’ll say “no, thanks” and wait until they become cheaper again.

In case of a digital coin, there is no way to calculate what the intrinsic value of a digital coin should be. Also, the internet world has not adopted cryptocurrencies yet. Therefore, the only way to spend them is to sell them and spend dollars instead!

Buying Bitcoins is Like going to the supermarket and buying tomatoes without a price tag, knowing that you cannot eat them, but only sell them later on!

Even if you believe in the blockchain which I’m a strong supporter of, the dust needs to settle first. The Blockchain is an amazing technology which can improve the world like the internet did.

Property owners will only have to agree on blockchain upon selling their house and the validity will be there for everyone to see. It can help fight fraud and make this terrible bureaucratic process simpler.

Speaking of agreements, Ethereum is another interesting technology built on Blockchain. According to its philosophy, connected computers around the world run “smart contracts” which are agreements between two parties without any middleman or any intervention. Imagine you place a bet with your friend and the computers will pay someone the winnings after a game finishes.

But Michael, you’re still not answering. SHOULD I BUY BITCOINS?

You probably shouldn’t buy any cryptocurrency yet unless you see it as a gamble. It’s like going to the casino at this moment. Even Jack Bogle said “Avoid Bitcoin like the plague”.

The Crypto world is very immature yet and digital exchange wallets get hacked one after the other. Tip: The recommended way to store your coins is to buy a hardware wallet like Trezor. I’m not going to spend £80 though for storing £500 worth of crypto but good to know.

Oops! I just said I bought some. That’s just play money though to keep myself entertained and if I lose everything it won’t bother me much. I used the Coinbase exchange (invite link where we both get $10 / £7 if you buy at least £100). You don’t need $10,000 to buy bitcoins, you can still buy a fraction of it.

Here’s the step-by-step process I followed to buy Bitcoin and Ethereum without paying any fees.

But what about the smaller coins? Bitcoin is just too expensive. I really liked this tweet: Bitcoin sneezes, altcoins catch a cold.

Simply put, there is a high correlation in price between Bitcoin and other coins like Litecoin, Ethereum, Monero etc. Buying these doesn’t really diversify much, as the prices move up and down very similarly. However, if a use case is found for one coin this will skyrocket its price so I see some value in that.

I believe 2018 will be a very interesting year for cryptocurrencies. The US Fed may create its own crypto coin, the price will crash and rise again, and the governments will want their fine cut. I plan to write a more detailed article on how to actually buy cryptocurrency without paying any fees. What are your thoughts? Have you bought any?

If you’re looking to make some risk-free money on the side, check out my Matched Betting series. No betting experience required.

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    11 thoughts on “Bitcoin Madness: Missed the boat already or time for a new era?”

    1. Hi there,

      Amazing article, really love the details.

      I just wanted to provide my view on the near future of bitcoin. The coin will quickly reach the $14.5K this month which is time for traders to take profit, then we will see it dropping to around the $10k about the new year. This will be a good buying opportunity for a while. The coin will go again up to $13k some time in February, towards the end. Thats another selling/taking profit period. The coin will then dip all the way to $7.5 which is again time to buy (as much as you can).

      Haven’t analysed what will happen immediately after that yet, but the coin will easily reach $40k in 2018.

      Having said the above, if government will ban/try to regulate such a decentralised unstoppable currency, we will see a slow down in the growth, but it will catch up again for sure.

      Sorry for the rant.

      • Hi Issa, thank you for reading the article and for your comment!

        To me it looks quite hard to predict bitcoin prices, especially 3 months in advance given its very high volatility. I just read Steam’s announcement that they actually stopped accepting bitcoins as a payment mechanism particularly due to the high transaction fees and the volatile price between rejections –

        Although long term view, I see cryptocurrency as a more established way to pay everything. Not sure if it’s going to be bitcoin, let alone trying to do technical analysis on its short term price! Hopefully bigger market cap will solve volatility. 2018 will be an interesting one 😉

    2. Michael, comparing it to tulip bubble is shallow and just not good enough. It´s like looking at car and judging its value from outside comparing it to a car next to it.
      Look at this cover of financial times, do you agree with author? Was bitcoin in bubble in 2013 just because it went from .05% to 130$?
      Regarding bitcoins you have to ask just one thing:
      After eight years since creation are the underlying principles and technology still sound?
      And the answer right now is yes.

      This thing just needs to survive to be at least better version of gold. Just survive. And I am talking only about replacing gold.
      We are still very far from point where it makes sense to sell bitcoins to real estate or whatever. Everybody talks about cryptos but most people hold nothing or close to it.
      And only thing which can bring this thing down is if underlying principles and technology will be compromised or if goverments will take it down.
      But risk/reward ratio is very good. I would still advise to allocate at least 5% of net worth to it or amount you can comfortably survive losing.

      • Hey Alchemist and thanks for your comment! What I’m trying to say here is that the same mania, euphoria, fear of missing out and crowd awareness that happened in Tulipmania in 1630 is happening again in 2017 (not before) with cryptocurrencies. Obviously, blockchain has a much higher underlying value than a flower and they’re not the same.

        The characteristics, however, of how people react to a rising price of something are exactly the same. Just look at another conversation I had yesterday with a friend:

        – “Michael, I want to buy some bitcoins, how can I do it?”
        – “Do you know what it is?”.
        – “No, but the price is going up, everyone is making money.”

        This is real. We are a long way from having a stable Bitcoin price but I believe we will see it becoming more mainstream and I hope for more use cases too! Even when the price is $5,000 or $50,000.
        What is your opinion on other coins? Bitcoin Cash?

    3. That was a good read!

      I agree that, especially in retrospect, Bitcoin (and the rest of the cryptoverse as you note, the prices are very much correlated!) in late 2017 was indeed in a bubble. But only a mini one. Looks like we’ve had the crash (wish I’d bought more in that, but ) and prices are now stabilising again. I agree that there was a bit of a mania, people waded in knowing nothing about it (including my good self) and then probably sold out panicking when it started to crash and lost money. Or maybe they’re Hodlin’ and waiting it out till it goes past it’s previous peak to sell out.

      Anyway, I’m glad I started to get involved as having some skin in the game forced me to actually learn about the tech and research many other coins, and I’m finding it all really interesting, so if I lost a bit of money in the short term, I think getting involved long term is going to pay dividends!

      Also, I wish I’d read your article on buying bitcoin with no fees before I started getting involved with Coinbase, that would have saved me about £100 at least!!! I found the thread on Reddit that described the technique but again it was a little too late to avoid a lot of the fees I’d already paid.

      D’oh! We live and learn 🙂

      Hopefully when all my coins are worth 1000% in a years time I’ll forget about the odd £10 here and there 😀

      • I agree! I think in the long term cryptos will reward people involved in 2017-2018.

        But who am I to say? Maybe the whole thing will be
        cracked down by regulation and the Amazons of the world will issue their own not-so-decentralized coins to benefit from the blockchain 🙂

        Your strategy of just buying the dips is promising, Andy… How are you getting on?!

        • It’s tough because you can never know when the bottom is going to happen… I’ll leave it at that!!! 🙂

          I think I’m about even, maybe lost a bit due to getting involved and over excited a bit too early and with some altcoins I had no idea about. But now I’m pretty happy with the holdings I’ve got for the long term so won’t be doing any more fiddling for a while (Hopefully!). So I guess we’ll see where we are in 6 months time (sounds stupid but that is a long time in Cryptos isn’t it!)

          I’ll probably do a post soon updating on what I did, all the crazy moves that have happened already, and all the mistakes I made along the way. Hopefully others can avoid them!

          How are you getting on so far? Are you going to do a post on what you are holding?

          With regards to your guide and my cryptos toolkit… yes I definitely will add your link to that page! Cheers!

          • I know what you’re saying, Andy. I tried to catch some falling knives and still waiting for those funds to reach their previous levels!

            Overall, I’m up 20% but that can definitely change within a day 🙂

            However, I’ve started looking into building a trading bot. It makes profit on paper, so now I’ll have to see how to build the execution part.

            I’ll do a crypto update again in the near future. Perhaps on what I’m holding and why, and my experience these few months from a behavioural point of view. I found that helps you also to get to know myself better as I have not experienced such rapid falls in stocks yet. Looking forward to reading your crypto update!

            • Hah, that’s a good analogy with the falling knives.

              Trading bot sounds awesome!
              Would love to see a post on the basics of that, or if you’d rather chat privately ping me an email. I’m a dev as well so I might be able help out, would a collaborative bot be something you are interested in? We could pool trading ideas as well.
              How have you paper tested it? Are there any online resources that can do this automatically? I would imagine literally doing this on paper would take forever to test.

              ” I found that helps you also to get to know myself better as I have not experienced such rapid falls in stocks yet.” – Honestly that is one of the reasons why I thought it would be good to get into Cryptos. I started investing around 2013 so the stock market has pretty much just gone up since then, so I wanted to see how strong my hand was when faced with a big red number next to some of my investments. So far I would say I’ve handled it pretty well, but it’s been great training for the next stocks crash that is for certain.

              One random thought I had recently, a big stocks crash could end up being really good for Cryptos as people sell out of the market, money might flow into Cryptos instead. Obviously the opposite could happen as well, I guess panic in the markets could cause panic in Cryptos as well, but personally I don’t really see how the two are in any way correlated so they could actually be a really good hedge against a market crash. Will be interesting to find out whether my hunch is true when it happens! 🙂

            • Hey TFS, the trading bot is backtested using a tool called Gekko. You can add different strategies and play around. Fairly easy to use just run it locally with Node, fetch some historical data and backtest! But I want to do it properly with my own stack (Java, own storage) and custom code for more flexibility. Sure, we can collaborate.

              I only recently started learning about technical analysis and indicators. The most important ones I found are EMA, MACD, RSI, StochRSI. The idea is to find certain thresholds that an indicator or a combination of those will make profit. Then run it live! Maybe I should write a post on that, I just don’t want the blog to go all-in cryptos lately.

              I also think cryptos can have a negative correlation with the stock market. It feels they’re in their own world. We’ll have to wait and see!

            • Amazing, thanks for the link, will check that out!

              I have to admit I have no idea about technical analysis right now so I might not be able to contribute on trading ideas right now, but definitely up for learning, so will get on that.

              Haha, know what you mean about the blog going all cryptos… it’s all I’ve wanted to write about for the last few months but have held back as feel it’s not really that interesting for the wider audience just yet.

              Anyway, as I say I’ll have a play with that tool and drop you a line if/when I get anything concrete that looks like it might be a good idea. Cheers again!

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