In recent months, when people talk about the digital currency, the chances are that Bitcoin is the first cryptocurrency that will come to mind.
As the leading digital currency by market capitalization, Bitcoin has captured the public’s imagination like few things have.
Barely a day goes by without a newspaper headline mentioning it. Some say it is like digital gold, while others write it off as a bubble. In mid-December 2017, the price hit a record high of $19,783 before falling by more than 40%. However, it has rebounded since then, and some people are asking – is it a good time to buy Bitcoin now?
In order to know whether or not it is a bargain at around USD17,000 per Bitcoin (as of 8th January 2018), the question we need to ask ourselves is: How much is 1 Bitcoin really worth? After all, it is only a bargain if it is actually worth more than the current price.
A Short History Of Bitcoin
Bitcoin (BTC) is a virtual currency that was created back in 2009 by an unknown computer whizz using the alias Satoshi Nakamoto.
Bitcoin’s first transaction happened in 2009, beginning a whole new monetary economy based in the digital space.
It is described as a consensus network that enables a new payment system and a completely digital currency. Powered by its users, it is a peer to peer payment network that requires no central authority to operate. Transactions are made without middlemen, so there are no transaction fees and no need to give your real name.
Since then, bitcoin transactions grew quite popular, and a lot of developments have happened resulting in improvements in the system as well as the creation of other cryptocurrencies.
It has also gained a lot of value, earning global recognition after its price rose to almost $20,000 towards the end of 2017. Many people stopped viewing it as a currency through which they could exchange value and instead treated it as an investment opportunity. This is one of the main reasons for price volatility. However, the price of Bitcoin has since dropped from its former glory.
How Should You Value Bitcoin As An Asset?
The intrinsic value of an asset is the estimated sum of its future cash flows, discounted to the present value. Bitcoin, unlike stocks, bonds, properties or even fixed deposits, does not generate any cash whatsoever. So essentially, we are unable to estimate its intrinsic value. Its value is solely dependent on what someone else is willing to pay for it, and that is impossible to predict, further driving bitcoin’s highly volatile nature. The digital currency has experienced sharp price fluctuations in the Bitcoin spot rate on Bitcoin exchanges, a situation that undermines its ability to function as a currency.
Not to forget, Bitcoin is also a very new digital asset so we don’t yet know how it may perform in a major financial crisis. Nobody knows whether it will become globally accepted or even whether it may one day disappear or be overtaken by other cryptocurrencies.
It is also possible that certain governments may ban its citizens from holding Bitcoin with the effect that the price of cryptocurrency may collapse.
Furthermore, there is a possibility for large scale cyber-attacks on digital asset exchanges which are likely to have a strong, short-term impact on the price of Bitcoin.
In other words, we have no way of knowing whether the current price is a bargain or way overpriced.
Benjamin Graham and David Dodd, authors of Security Analysis, defined investing this way: “An investment operation is one which, upon thorough analysis, promises safety of principal and an adequate return. Operations not meeting these requirements are speculative.” If the value of an asset is determined by sentiment, there can be no safety of principal. There is no downside protection in the same way that a stock’s earnings and dividends, a bond’s interest coupons or a property’s rental income provides to the investor.
Additionally, the past performance of an asset is not indicative of future returns. If an asset has no hope of generating cash, whether now or in the future, one cannot rightfully expect an adequate return. One can hope to make money by buying it because perhaps demand may increase and supply is relatively limited, but that is entirely different from expecting to make money from it. It is a little like buying 4-D – you may guess the right numbers and win a prize, but that does not mean that you actually expect to win money when you buy 4-D. Over the long run, due to the odds of buying lottery, the expected return is actually negative.
Our Two Cents Worth
This is why at Providend, we adopt the evidence-based investing approach and invest only based on decades of academic research, Nobel Prize-winning thinking that span across time and markets.
We only invest in asset classes that generate cash – such as fixed income and equities – because we believe that over the long term, they promise the safety of principal and we can expect an adequate return. We do not invest in Bitcoin and have no intention to – no matter what price its proponents claim it is capable of reaching.
If you would like to buy Bitcoin, by all means do so, but please do so with the recognition that you are speculating – not investing.
This is an original article written by Providend’s Editorial Team.
For more related resources, check out:
1. Retirewell® Part 5: Investment Philosophy for a Retiree Client
2. How To Get Passive Income From Your Accumulating Funds
3. Financial Lessons From The Garden
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