Bitcoin – 5 Myths and Misconceptions (Part 3/3)

5 January, 2021
Investing; Bitcoin

Two years ago I thought that bitcoin was overhyped, buttressed by the bullish dreams of the few despite the disbelief of the many.

I thought it had no intrinsic value and scoffed at the nonsense that it was the future of money.

But in May 2020 I changed my mind.

This is part 3 in my series of posts that explains why. I recommend starting with part 1.

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The bear case for Bitcoin raises the spectre of uncertainty. And there do exist some existential threats to Bitcoin, which will be looked at in bonus part 4. However, the majority of bear views are unsubstantiated – the risks which people think are high are often fanciful.

This article will challenge 5 common statements often heard in the now ubiquitous conversations about Bitcoin:

  1. ‘Bitcoin is overhyped, it is a bubble – now is a bad time to buy’
  2. ‘Bitcoin is high risk’
  3. ‘Bitcoin is too volatile’
  4. ‘Other cryptocurrencies will displace Bitcoin’
  5. ‘Governments will ban Bitcoin’


1. ‘Bitcoin is overhyped, it is a bubble — now is a bad time to buy’

Is Bitcoin a bubble?

I don’t know. No one does. But I think the expected value of Bitcoin is well in the green.

When people say Bitcoin is a bubble, it normally comes down to two things:

  1. Thinking ‘everyone is talking about Bitcoin’
  2. Observing the price chart for Bitcoin.

I will show that both of these factors are perhaps not at large. Then I will explain why even if Bitcoin is a bubble, it is not necessarily a bad thing.

‘Everyone is talking about Bitcoin’… or are they?

There is a common misconception that the Bitcoin hype cycle is more frenetic than it has ever been. But a proxy for hype, Google search interest, shows that this might not be the case.

Compared to 2017, today’s hype looks mellow. The difference between 2017 and today is the entry of large pools of institutional money into Bitcoin.

The price chart of Bitcoin

By comparing Bitcoin to its historical prices on a linear chart, Bitcoin does indeed look expensive.

But such is exponential growth. A chart alone is deceptive.

Look at Amazon from 1997 to 1999. If you focused on the chart, you would think that being up 50x would mean no more room for growth. But Amazon has increased 4,400% since then.

Or look at 2007 to 2018. With the stock up another 25x some people might have thought there was no more room to grow. But alas, Amazon has increase 195% since 2018.

How then, can we look past the visual deception of a chart? The trick is to use a logarithmic chart.

Viewed this way, Bitcoin’s growth looks less intimidating.

Each dot in the logarithmic chart represents the monthly bitcoin price. The colour is based on the number of months since the last halving. A halving is a pre-programmed point where the supply rate of Bitcoin halves. This is where the blue dots turn into red dots.

Using technical analysis, Bitcoin is only now beginning to look overbought.

The RSI is a common momentum indicator. Under a traditional interpretation, RSI values of 70 or above suggest that a security is overbought or overvalued. RSI readings of less than 30 indicate an oversold or undervalued condition. The question, however, is whether Bitcoin’s past RSI trends are indicative of the future. I would suggest that Bitcoin is undergoing a structural shift due to the factors described in part 2.

A bubble is not necessarily bad

Let’s say we define a bubble asset as one that is overvalued relative to intrinsic value. Under that interpretation, all monetary assets are bubble assets. As described in part 1, a currency has no intrinsic value. Its value is reflexive: people believe in it because they expect others to believe in it, who in turn expect others to believe in it.

As Nobel-laureate Robert Shiller observes:

“Gold is a bubble, but it’s always been a bubble. It has some industrial uses, but basically it’s like a fad that’s lasted thousands of years.”

This is not an argument against gold or Bitcoin. It is merely an astute insight into the bubble-like nature of money.

Throughout Bitcoin’s 11-year history, it has been through four notable bubbles.

  • 2011: $1 ⇒ $31 ⇒ $2 (Apr 2011 to Nov 2011)
  • 2013: $13 ⇒ $266 ⇒ $65 (Apr 2013 to Jul 2013)
  • 2013-2015: $65 ⇒ $1242 ⇒ $200 (Jul 2013 to Jan 2015)
  • 2017-2018: $1000 ⇒ $19500 ⇒ $3500 (Apr 2017 to Dec 2018)


2: ‘Bitcoin is high risk’

Each day the Bitcoin continues to exist, its risk comes down. Part 2 describes why the risk of Bitcoin is lower than ever.

However, when I was buying in May, the risk of Bitcoin was perhaps 10x the risk now. So how did I justify buying?

The answer lies in the difference between expectation and probability.

In May when Bitcoin was at 9K USD, I would say to people that I thought Bitcoin had an 80% chance of going to zero, but that I was buying.

They would look at me like I couldn’t do maths.

But here’s the catch. I would also say that I thought it had a 20% chance of going to 200K. [These odds are crude for the purpose of illustration. In reality, the odds of hitting different prices would be a continuum].

This gives a positive expected value. In fact, it gives an expected value of 0.80 + 0.2200K = 40K per Bitcoin.

The lesson: just because something is high risk doesn’t mean it is a bad investment.


3: ‘Bitcoin is too volatile’

If you think that Bitcoin is too volatile to be a store of value or medium of exchange then you are right. Kind of.

Bitcoin is an emerging store of value. People aren’t buying Bitcoin for what it is today. They are buying Bitcoin for what it can be.

As Bitcoin grows larger its volatility decreases. It is much easier to have volatility in an asset with a market cap of $10 billion than in an asset with a market cap of $2.5 trillion.


4: ‘Other cryptocurrencies will displace Bitcoin’

This is a legitimate concern [Edit: I have since changed my mind on this].

The Bitcoin enthusiasts believe that Bitcoin’s network effect as the ‘first mover’ makes it difficult for other cryptocurrencies to compete. A network effect is when each additional user makes a platform more valuable for each additional user. In the case of Bitcoin, each additional institution that holds Bitcoin makes it more valuable for each retail investor. Each additional investor makes Bitcoin more valuable as a medium of exchange which attracts more buyers. Each additional investor also reduces Bitcoin’s volatility making it a more attractive store of value.

People cannot reasonably copy Facebook, Twitter or Instagram because of these platform’s network effects. No one is going to migrate to Facebook 2.0 since none of their friends are there. The same network theory can be applied to Bitcoin. Since more people are using Bitcoin than any other cryptocurrency, a disrupter currency will need to be 10x better to see major adoption.

Do, then, cryptocurrencies that are 10x better exist? This is explored further in the bonus part 4 to this series.


5: ‘Governments will ban Bitcoin’

This is probably the most legitimate concern.

And yet again, the Bitcoin bulls craft a compelling counterargument which, borrowing from what I wrote in part 2, goes like this:

More and more institutions are buying Bitcoin. Two multi-billion dollar public companies, MicroStrategy and Square, both own large stakes of Bitcoin.

Billionaire investors like Paul Tudor Jones, Cathie Woods and Stanley Druckenmiller own it, as do banks like JP Morgan and Morgan Stanley. Massuchusetts Mutual Life Insurance purchased $100M, and Scott Minerd who manages $233B is another Bitcoin bull. His price target… $400,000.

Fidelity are involved in institutional-grade custodian services for it. Andreessen Horowitz, one of the most successful venture funds of the 21st Century, recently restructured to buy crypto. It has since launched two crypto funds with $865M under management.

The more institutions that own Bitcoin, the harder it becomes to ban it. At least one US senator owns Bitcoin, the reported next SEC chair used to teach a class on cryptocurrency at MIT, and the second largest CEO donor to Biden’s campaign runs a large cryptocurrency derivatives trading platform.

But the counterargument is that all this mainstream momentum makes regulation more likely and necessary.

European Central Bank President Christine Lagarde noted about Bitcoin that:

“It’s a highly speculative asset, which has conducted some funny business and some interesting and totally reprehensible money laundering activity…There has to be regulations…It’s a matter that needs to be agreed at a global level”

Similarly, Janet Yellen in January 2021 said that:

“We really need to examine ways in which we can curtail [cryptocurrencies’] use and make sure that money laundering doesn’t occur through those channels.”

There are two main regulatory scenarios which may play out:

In the first scenario, governments may clamp down on Bitcoin for fear that it undermines fiat currencies. Given that most Bitcoin purchasers rely on wire transfers and bank debits, the US could make it impossible for US investors to buy Bitcoin. If central banks release their own digital currencies, they may prefer to limit the competition posed by Bitcoin.

But in the second scenario, increased regulation might build trust in Bitcoin in the long term. It could improve institutional access, and result in a Bitcoin ETF that encourages investors to increase their exposure. I see this as the more likely route.


Existential Risks

I’ve explained why many of the purported risks of Bitcoin might very well be overstated. But there are some existential risks. These are explored in a bonus part 4 to what was initially a 3 part series.