22 July 2021
In my last blog, I concluded “not for now” when it came to considering Bitcoin for investment portfolios. Since then, the price of Bitcoin reached an all-time high in April when it hit $60,000, and then fell sharply so that it currently stands at $31,800.
In this blog, I look at some of the factors that have affected the price of Bitcoin; highlight some other emerging crypto currencies; and look at the future of cryptocurrencies generally for investment portfolios.
Why has Bitcoin’s price dropped so much recently?
Remaining largely out of the picture for years, unfriendly regulation was always Bitcoin’s Achilles heel and the Chinese government recently delivered the arrow.
In May, the government banned cryptocurrency transactions and more recently it has banned mining activities, pending investigation. This is important as most crypto mining takes place in China! The People’s Bank of China (PBOC) has also asked banks to cease any activities related to cryptocurrencies.
The environment under pressure
Bitcoin’s impact on the environment is also coming under increasing pressure. Over a year, it uses energy comparable to a medium sized European country! This is partially why China is taking aim, as it is targeting carbon neutrality by 2060. To track Bitcoin energy consumption, see Cambridge Bitcoin Electricity Consumption Index (CBECI). Bitcoin has a first mover advantage in fame, however other coins have better, greener technology.
Then we come to Ethereum
Ethereum, the second most popular crypto has committed to changing its technology to use a different approach that requires less energy.
Ethereum also has wider uses than Bitcoin. Perhaps, in the same way that iPhone replaced the once ubiquitous Nokia 3310, Ethereum will replace Bitcoin as the future of cryptocurrency. But then again perhaps not. Ethereum has one key disadvantage, it is not finite in supply, so it is clear it could never be used as a hedge against inflation, a key reason some institutional investors have allocated to Bitcoin.
The dart from the FCA
In the UK, the FCA, warned that any cryptocurrency investor “should be prepared to lose all their money.” Indicating its growing concern, the FCA ordered Binance (one of the largest cryptocurrency exchanges) to stop all regulated activities in the UK. However, the exchange is not UK based, so in practice other than the regulator baring its teeth, this has limited impact.
What else is on the horizon for the digital currency?
- Several big-name financial firms have entered the crypto market. Goldman Sachs is involved with Bitcoin derivatives trading. Morgan Stanley is offering clients access to Bitcoin funds ran by crypto firms such as Galaxy Digital. JP Morgan plans to launch a fund which it will manage directly and has also launched JPM Coin which essentially enables the automatic transfer of funds between accounts.
- Coinbase, an American company, operates a cryptocurrency exchange platform and it listed on the Nasdaq exchange in April.
- El Salvador is accepting Bitcoin as legal tender, and the government plans to set up a trust at the Development Bank of El Salvador to allow conversion of Bitcoin into US dollars.
- There are now adverts on the underground promoting Bitcoin and trading platforms that are making cryptos widely accessible for retail clients.
This development does feel a little ominous - usually when everyone starts buying, it’s a sign of the top of the market!
- Two people famous for dodging, and even profiting from, the financial crises of 2008 have spoken out against Bitcoin. Michael Burry recently commented in relation to Bitcoin: “Greatest speculative bubble of all time in all things. By two orders of magnitude.” And Steve Eisman, said he will not be investing in Bitcoin. Interestingly, there was a conference on Bitcoin in Miami just a few weeks ago, reminiscent perhaps of the famous sub-prime mortgage conventions in the years before that market crashed.…Of course, perhaps this time it is different.
Why would investors allocate?
The most common arguments for holding Bitcoin are as a hedge against inflation and a search for returns. Some investors are concerned that inflation could reduce the real value of (traditional) currencies globally – and the modern monetary system, with no backing of those currencies with gold, makes it easy for governments to devalue their value. Certain cryptocurrencies are structured so that the amount of issuance is limited and so should, the argument goes, not be subject to the same debasement as traditional currencies.
The huge monetary and fiscal stimuli in the global economy to tackle the effects of the Covid-19 pandemic have reignited fears that inflation will return.
We have not seen evidence that cryptocurrencies can be an effective hedge against inflation (yet?), but if it were to replace, or complement, gold in the minds of investors as a “safe-haven” asset, it could offer some protection when (and if ) inflation surfaces.
In my last blog I concluded Bitcoin could not be considered a financial asset or currency. Our clients set strategic allocations for the long term, and we remain unconvinced that cryptocurrencies should form part of this at present. Nevertheless, we will continue to monitor developments in this space.
A positive change to regulatory status could mean Bitcoin becomes eligible for inclusion in a wider range of investment vehicles (currently not permissible in UCITS funds), and we could see managers starting to make more use of them where they see a case. It is also likely to offer Bitcoin greater price stability.
Enough about Bitcoin, bring on Britcoin
China has been looking at launching the e-Yuan for some time and more recently the UK government is looking at whether there is a role for Britcoin. Contrary to Bitcoin, these digital coins would be regulated and issued by central banks, with their value directly linked to that of the Yuan and Pound respectively. They are ‘stable coins’ - cryptocurrencies backed by an asset; Bitcoin’s price is not linked to any currency or asset. The current plan in the UK is for this government-backed digital currency to exist alongside traditional cash. So, what purpose would digital currencies serve? Primarily, they can eliminate transactions costs for business when accepting credit card payments (typically 0.5%-1% of the transaction). It is certainly another development to watch!