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Avoid getting blown away by the Bitcoin bubble

In the 17th century, tulip bulbs in Amsterdam were extremely popular. It is said that in the 1620s, the value of 10 tulip bulbs could be exchanged for a house. The popularity of tulips continued unabated for more than a decade. And in the years 1634 to 1637, the world witnessed one of the biggest asset bubbles, and implosion, in history.  Word had spread that tulip bulbs were increasing in price at a rapid rate, and people were buying them as a store of wealth.  Foreigners joined the flurry, driving up demand and decreasing supply further. It is said that in 1637, as prices started exploding upwards, some bulbs changed hands many times a day. In early 1637, the price of some variations of bulbs went up tenfold in just a month! In February 1637, a tulip bulb was sold for 5,200 guilders – twice the earnings of a good merchant, and 160 times the price of a tradeable pig (source Tulipomania: The Story of the World’s Most Coveted Flower and the Extraordinary Passions It Aroused). And then, in spectacular fashion, demand completely disappeared, and the price of tulip bulbs fell 90% in a very short space of time.

unnamed (1)The tulip bulb mania is one of the first recorded asset bubbles in modern history, but it certainly was not the last. Many asset bubbles have come and gone (see image of a few of them), and many will continue to come and go. Such is the nature of man that get rich quick schemes are a dime a dozen. But what makes the current cryptocurrency bubble so unbelievable is the sheer size of it.  There are thousands of different cryptocurrencies, which collectively have (at the time of writing) a market cap of some $440bn. At one stage, the collective market cap of all cryptocurrencies was over $700bn.

Cryptocurrency bulls will argue that blockchain is a revolutionary technology that will change the money transfer system forever – a decentralised, immutable ledger that records and processes transactions, out of hands of banks, brokers and regulators, in a matter of seconds. While this may be true, one does not need to trade in cryptocurrencies in order to take advantage of blockchain technology. Ripple, which is one of the largest cryptocurrencies, has signed up many banks and brokers around the world to remit money transfers quickly and securely. The Ripple crypto currency has been one of the top performers in the last year – up more than 270 fold last year! But what cryptocurrencies fail to realise is that Ripple technology is mainly used by its clients to transfer old school currencies such as dollars and euros around the world. There is no real need to use the Ripple currency for money transfers.

Many advocates of various cryptos bang the table about how these various cryptos are revolutionary (for a variety of factors depending on the crypto). But what are they getting by investing in these cryptos? Are they getting equity in the underlying business? No. Are they funding the development of the crypto – not always. They are merely funding the crypto idea by buying a token. A token that is not backed by anything other than a concept. A token that literally puts money into the pockets of the crypto creators, and gives nothing in return, other than the ability to sell it at a higher prices to a greater fool.

Overnight millionaires have appeared all over the scene, with several multi-billionaires being reported, on paper that is (or should we rather say on computer?). But it is all hypothetical at the moment. The ability for large holders to liquidate their positions instantly would be impacted by demand on the day – most coins had a fall of some 20% in just one morning in January as supply heavily exceeded demand.  The founder of Ripple was allegedly worth some $59bn (that’s billion with a capital B) a few weeks ago, based on the volume of Ripple cryptocoins he holds. Today that value is less than $10bn. Even that amount is an incredible amount. But would he be able to ever realise that fortune? I highly doubt it.

When the door finally closes on this bubble, it will most probably implode in spectacular fashion. And as the sellers start leaving the room in droves, the rush to get out the door will be dramatic. Last one out the door will be lucky to have anything left in their wallet.

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