Is Bitcoin a Speculative Bubble?

With the volatile price fluctuations of Bitcoin and the huge multiples it has returned to some investors recently, it’s no surprise that many are calling it a bubble. It’s also no surprise, that many of those same people are also busy scrambling to get in on the action and turn a quick profit themselves!

When we look at traditional financial assets – fiat currency, stocks, bonds, gold, silver and other precious metals, we see financial security and relative stability in price. Conversely, when we look at the track record of Bitcoin and other Cryptocurrencies – we see a rollercoaster of highs and lows!

Stable money = stable economies (most of the time!)

Traditional ‘fiat’ currencies such as the US Dollar or British Pound Sterling are managed by central banks – the US Federal Reserve, and the Bank of England respectively. These large financial institutions are well established, often hundreds of years old, and tied directly into the economies of their respectable countries. What they do (amongst other things) is manage the supply of money with the aim of keeping prices steady and maintaining a stable economy.

Fiat Cash 1

Where they think it’s needed, government banks can introduce more money into circulation (printing bank notes, or minting new coins). They can also withdraw some if the need occurs, as well as use other tools at their disposal such as interest rates, all to maintain relative stability.

Bitcoin doesn’t have this. Bitcoin has plenty of in-built controls, a limit of supply and it’s own mechanism for ‘minting’ and introducing new Bitcoins. However when it comes to who decides the price of Bitcoin – the market decides, and the market is heavily dictated by speculation and ‘Price Discovery’.

How much people are willing to pay for it

Bitcoin’s price is determined by the amount people are willing to pay for it, and in recent times, that amount has become something of a sensation and talking point.

Jamie Dimon, the boss of US Banking giant JP Morgan, recently labelled bitcoin a fraud. He commented that Bitcoin’s astronomic rise in value was a text-book case of a financial bubble. He also went as far as to compare it to the Dutch ‘Tulip mania’ of the 17th century. Tulip Mania is a well-known historic bubble during which the price of just one tulip bulb soared to ten times the annual salary of a skilled worker at the time. It quickly crashed shortly after that, losing nearly all of that value in the aftermath.

Have the Bitcoin bubbles been and gone?

Industry commentators, government representatives and Wall Street financial firms frequently discredit Bitcoin and refer to it as a ‘bubble. In actual fact, Bitcoin has already witnessed many ‘bubble’ events in it’s short lifespan to date.

What is a Bitcoin or Cryptocurrency Exchange

Let’s take a quick stroll down memory lane. Don’t worry, it won’t take too long – Bitcoin has only been around for the last decade…

Bitcoin’s short history is littered with a handful of particularly impressive price hikes, followed by very significant and costly crashes. Arguably the largest came as a result of the Mt. Gox exchange hacking scandal of 2014. Then again more recently, the price rocketed up to an all time high on December 16th 2017. It peaked at just over $19,000USD before then crashing back down to less than $7,000USD through the opening months of 2018.

Is there a benchmark to put any of these bubbles into perspective?

Bitcoin’s recent price fluctuations are certainly a rollercoaster ride, and there is no sign of that stopping soon. However, it’s still worth trying to look at it objectively and find some kind of benchmark to put all of this into perspective.

In many ways, Bitcoin is like nothing that has gone before it. While that makes it very exciting, unfortunately it also makes it hard to find an appropriate benchmark to compare it against.

If we look at history though, one thing we can see is that most traditional assets appreciate and depreciate in value over cyclical periods. They all, to some degree or another, display long term ‘bubble behaviour’ if you like. History is littered with examples of this across Gold, Silver, and other precious metals, even the housing markets. Still though, these markets have been established for centuries. We might struggle to judge Bitcoin against this backdrop. Let’s look a little closer, to more recent ‘bubbles’.

The significance of the ’Dot-com’ bubble

Perhaps the most recent technological breakthrough we have observed prior to Bitcoin, is the Internet. The Internet most certainly demonstrated it’s own ‘bubble-like’ behaviour, giving us the ‘Dot-com’ boom and bust around the turn of the century.

Bitcoin Bubble

Just before we welcomed in the new millennium, the Internet was the ‘new thing’ and everyone wanted in on the action. ‘Dot-com’ businesses as they were known at the time – sprang up at an insane rate and everyone wanted in on the opportunity.

Venture Capitalists and stock markets jumped at the chance to put money in, often fighting to make an investment, often pushing up the prices and valuations even higher! All in the hope that their chosen Dot-com firm would prove to be a winner.

Then around the end of 2000 and start of 2001, the Dot-com bubble burst. It burst in style! Internet stocks were estimated to have lost approximately 75% of their value nearly overnight. That translated to approx. $1.755 trillion, wiped out in one fell swoop.

Relative sizes

Let’s put that into perspective with a quick bit of math. Going by those previously quoted numbers, we might assume the market value of the Dot-com bubble at that time was (1.755 / 0.75) approx. $2.35 trillion US Dollars. In comparison, the market value of all Cryptocurrencies (Bitcoin, plus the 1,000+ other ‘Altcoins’), was somewhere in the region $810+ billion US Dollars at the end of 2017 (according to CoinMarketCap). Following the crash in the early months of 2018, it is currently around $430 billion US Dollars (Apr-May 2018). That’s a recent peak with a market cap of only around 34% the size of the Dot-com market, and now (Apr-May 2018) of only around 18%. We’re still a long way off the size of ‘bubble’ we observed with the Dot-com movement!

Bitcoin – “the next Internet”

History showed us that of course, that wasn’t the end for the Internet. A few of those early Dot-com businesses survived (Oh hi Amazon, World’s 3rd most valuable company!), and a whole raft more sprung up in the years after (Facebook, currently ranked around 6th). Many Dot-com businesses dies, but many also recovered and those that die went on to make the Internet the biggest cash-cow and technological shift of recent times. Many speculate that Bitcoin and Cryptocurrencies could well prove to be the next Internet.