Is Bitcoin a Bubble?

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“Is bitcoin a bubble?”

I get asked that question with surprising frequency at investment conferences and seminars.

I say “surprising” because I haven’t written much about the cryptocurrency and digital payment system – and don’t pretend to be an expert on it.

Of course, neither are most of the people I hear spouting off about it these days.

I’m happy to share what I know and – just as importantly – don’t know about bitcoin… and why I don’t recommend it.

Four years ago, I had dinner at the Oceanaire in Baltimore with my colleagues Eric Fry and Joel Bowman.

Over the meal, Joel waxed enthusiastic about the many benefits of bitcoin:

  • Unlike fiat currencies – virtually every government-issued paper currency in circulation – the supply is limited.
  • Transactions are quick and easy.
  • They are also private and beyond government control (unregulated).
  • Transactions are irreversible.
  • And there is no paperwork.

He conceded that there was a lot about the currency he didn’t fully understand and that he’d even had some of his own bitcoin stolen from his digital “wallet.”

Yet that didn’t dampen his enthusiasm.

“Just buy it, Alex,” he said. “Buy it and hang on to it. You’ll be glad you did.”

I didn’t. But Joel – a long-term believer – must be a happy man today.

Bitcoin was about $270 then. It’s closer to $6,800 today.

You might imagine I regret not buying it. But I don’t. At least, not any more than I regret not betting on the winning number on the last spin of the roulette wheel at Caesars Palace last night.

A lot of things about bitcoin seem hinky to me. For example, no one knows who created the currency.

The inventor is an unknown individual (or group of people) named Satoshi Nakamoto. It was released as open-source software in 2009.

Bitcoin – like other cryptocurrencies – is based on the blockchain, a decentralized database technology that serves as a ledger for recording secure transactions.

And while bitcoin offers all the advantages I cited above, it has drawbacks too.

For starters, most merchants and individuals don’t accept it. There is no physical form of the currency, so you can never take delivery outside the virtual world. There is also the risk – as with any new technology – of unknown technical flaws.

An even bigger problem for this medium of exchange is the wild swings in valuation.

Who wants to owe someone bitcoin and find when it comes time to pay him or her back that the currency is worth five, ten or a hundred times as much?

Conversely, who wants to be owed bitcoin and find when it comes time to get repaid that it’s worth half, a tenth or a hundredth as much?

One reason bitcoin has appreciated so dramatically is it has a limit of 21 million coins. (About 17 million are already in circulation.)

But the explosion of competing virtual currencies dilutes the value of this limited float.

There are more than 1,000 virtual currencies out there currently, with 67 worth at least $100 million.

How can we know that one of these others won’t prove more popular than bitcoin, knocking it off its perch? (And how can we be sure that new currency won’t get dethroned by another still better one? And so on.)

There are plenty of smart investors who are both for and against bitcoin. Two of the most prominent pessimists are JPMorgan Chase CEO Jamie Dimon and Berkshire Hathaway CEO Warren Buffett.

Buffett says, “I don’t believe in this whole thing. I think it’s going to implode.”

Dimon is even more blunt: “It’s a fraud.”

However, Bill Miller, the former all-star manager of the Legg Mason Value Trust and the current manager of Miller Value Partners, has a whopping 30% of his hedge fund’s assets in bitcoin.

His fund is up over 70% year to date – and Miller remains bullish. He concedes, however, that “there is still a nontrivial chance bitcoin goes to zero.”

The blockchain is truly innovative. It’s here to stay.  Cryptocurrencies too.

But I don’t invest – or speculate – in things I don’t understand.

And bitcoin just doesn’t make sense to me.

Good investing,