Oct 292017

I had never spent much time thinking about Bitcoin. After reading a couple of articles to figure out what it was, I associated it with the muddled assemblage of Austrian devotees ranting against central banking, fiat currency, ‘big government’, ‘the elites’ and ‘the establishment’, and left it at that.

But then the other day, when my basketball buddy Adam, who is trading cryptocurrencies, asked me what I thought about them, I realised I needed a proper answer. Fighting my flippancy impulse – last year I had lashed out at Ed on Brexit and at John on Hillary Clinton ‘corruptness’ (Bernie Sanders’ flavour, not Trump’s) – I just told Adam that I hadn’t given it much thought. But that was not acceptable either. I had to have a closer look.

Luckily (HT @manualofideas) I soon found this recent post on Aswath Damodaran’s blog, which, in typical crystal clarity, makes all the relevant points. The post, written with Bitcoin at $6,100, should be read alongside an earlier post, written only a few months ago, when Bitcoin was priced at $2,800, and a later post, written a few days ago in response to critics. In a nutshell:

  1. Bitcoin is not an asset, because it does not generate future cash flows. As such, it does not have a value.
  2. Bitcoin is a currency, enabling the exchange of goods and services. As such, it has a price, relative to other currencies.
  3. The relative price of a currency depends on its quality as a unit of account, a medium of exchange and a store of value.
  4. One can invest in assets, based on an estimation of their intrinsic value, but can only trade in currencies, based on the anticipation of their future price movements. Buying Bitcoin is not an investment.

What I didn’t know is how many cryptocurrencies there are beside Bitcoin: 1221 of them at the last count – with fancy names like Ripple, IOTA, Qtum, Stellar Lumens – for a total market cap of $169 billion! Each has its own website, detailing how different and better they are compared to the others, and each can be traded on dozens ‘exchanges’ – with other fancy names like Bithumb, Coinone, YoBit, Poloniex. Most of them have explosive price charts, and Adam feels very good about it – he’s been buying more beer rounds. But what will be the dollar price of IOTA a year from now? Like Damodaran, I am not saying it will be zero. But I can’t see how anybody could have any idea.

I will let Adam ponder upon Damodaran’s analysis. As an addition to his considerations, I see his table contrasting the Pricing Game and the Value Game as a striking illustration of the ruinous influence of the Efficient Market Theory.

By collapsing Value into Price, the EMT turns an honourable intellectual pursuit into a vacuous guessing game, where thinking is overruled by action, patience by speed and brains by guts. If prices are always where they should be, and only new information can change them, then success is determined by how quickly one is able to collect and react to news. High-frequency, algorithmic and other types of ‘quant’ trading are a direct offspring of the EMT. And so is home-made online trading, as well as its mirror image, index funds. They all make a mockery of the noble art of investing.

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