Bitcoins: bubble rather than boom... surely?
Very interesting article on Gawker the other day about shopping for hard drugs online, using a digital currency called Bitcoins. These bitcoins can be exchanged for other real-world currencies at a number of different exchanges, albeit almost all of them with very little liquidity. Over April and the first half of May, the US$-to-Bitcoin exchange rate increased tenfold; since the story to which I linked came out, the exchange rate has gone up by well over 10% in a day. The first live number I can remember seeing when I started to look into this yesterday was about US$8.9 per BTC, and the current live number is about US$10.4 per BTC.
Blog posts are not financial advice, of course. This seems to have a lot in common with well-known, long-established scams, but certainly has enough new twists on it to make it interesting. Besides, scams rely on having interesting premises in the first place, and this one has a lovely one. If anyone out there has mad money that they want to throw away - because the risk of ruin on any investment you make must be immense - then this looks like it would be likely to give you a more interesting run for your money than a lottery ticket, or a Ponzi scheme. Despite any vaguely encouraging tone in this post, I would regard this as about as speculative an investment as a penny stock tipped by someone you don't know.
The brilliance of the Bitcoin thing is the sheer number of buzzwords that it manages to trigger in its discussion. It has a respectable-looking academic background, though the original author may well be an even more difficult Satoshi to find than the one from Perplex City. The currency has an interesting and open design to avoid having a central bank, there is no centralised issuing authority, and the measures in place are reckoned to be inclined towards being deflationary rather than inflationary. The principles behind the currency design are sufficient to make things untraceable in theory, though the development team are open about how the current implementation may not match up in practice.
Possibly the most attractive part of the whole scheme is the way that new coins are generated algorithmically through repeated calculations. If your computer performs millions-to-billions of calculations per second for long enough, perhaps you get lucky with what is currently literally a 1-in-2-million-billion shot, assuming I've counted the zeroes correctly (and noting that it deliberately gets harder over time), and discover fifty bitcoins. There are mining schemes which will distribute the effort and share the rewards, which I suppose is the modern version and less noble version of the Great Internet Mersenne Prime Search.
One estimate suggests that, by at least one measure, there is more computing effort active on this problem than available on the world's top 500 computers combined, though possibly orders of magnitude less effort than takes place on other distributed computing projects. Showing the money, another estimate is that a top-of-the-range computer, dedicating the current state of the art in off-the-shelf technology to the task, might be able to earn $30/day from mining alone. A computer that pays for itself in months sounds good, doesn't it? Too good to be true, perhaps?
Really fascinating claims and background, and yet so very difficult to accurately verify. You really need to know an awful lot about quite a wide variety of things to be able to verify the claims for yourself. (Heck, I've spent an hour or two trying to work out how to install a miner for myself, and can't manage it. I'm not claiming to be great at computers, or that it's the hardest thing in the world, because there are obviously very many people who have managed it already - but I would be reasonably happy to consider myself "not too bad".) The Internet is good at distributing this requirement of expertise, though, and it's interesting to see the variety of conclusions that different groups of people reach about the project.
The other reason why it's interesting is because of the parallels to the rest of the world's financial institutions that people have scrambled to establish, on the grounds that the potential upside is immense and it currently remains possible to get in on the ground floor. For instance, if you're bullish on BitCoins, there are plenty of people who've said they'd oppose you, though who knows if they'd really put their money where their mouth is. It's also fun to wonder to what extent the big players offline are paying attention to the scheme, and whether they might somehow yet be involved.
That amazing rise in the exchange rate is so tempting, too, for people who don't even come close to claiming that they understand what's going on, but they think they can recognise a good thing when they see one. I'm sure you don't need me to tell you not to invest in things that you don't understand, and this is not easy to properly understand. However, if the definition of mad money is money that you're happy to invest in things you don't understand -and who really does understand the markets? - then perhaps this could be the Next Big Thing. Even a Ponzi scheme returns... for a while.
At the end of the day, Bitcoins will only be worth anything if people want to buy them; very many other digital currencies have existed over the years, and the only one that's ever had any significant traction is money held at PayPal. (Arguably that's not even a digital currency.) The BitCoin site lists many people who are willing to take them, but again a savvy investor would check out the accuracy of the list and follow its accuracy over time. If it turns out that Silk Road turns out to be the mainstay of the currency, or trade in digital goods considered more harmful still, then it would be all too easy for the payment processors to be abruptly brought to a halt. Sporadic over-the-counter trading might continue, but the rate would surely plummet. What price could I get for $100 in a Full Tilt Poker account after Poker's Black Friday in the US?
So the logical price for a BitCoin can be argued to be likely to be zero in the long-term, with the whole thing proving more bubble-icious than gum, but evidently not zero in the short-term. (If I haven't talked you out of BitCoins as an investment, they must surely be a short-term play. And yet the short-term sometimes winds up being longer than you think...) If the number of BitCoins in circulation has been designed to approach 21,000,000, then it's interesting to consider what a target price might be - and what the people who got in early and mined early coins might stand to be in line for. If people are willing to value .com sites at nine or ten digits US, perhaps the value of an entire monetary system might compare. Hard to see any sort of price-earnings ratio, but if people keep wanting to own BitCoins, then they aren't worth zero. (Yet.)
It's interesting to compare BitCoins to penny stocks - specifically, perhaps this could be a really imaginitively dressed-up pump-and-dump scheme. It's got people blogging about it, it's got people admiring the trimmings. I'm not saying that BitCoin is such a scheme, but I'm not saying it isn't. If it were to be one, could there be a more effective way to promote it than to be a safe digital currency of choice for hard drug transactions? That ought to buy it at least the attention of the public for at least half a week - and, if you can get people gambling using BitCoins, you could probably get another few days out of it as well. If the exchange rate drops to zero in a week's time, someone who started off with sufficiently many BitCoins would stand to receive a sizeable chunk of a nominal market capitalisation of $60 million while they sold off their holdings. There are less lucrative scams to run.
What I will say, though, is that if BitCoin isn't such a scheme, then I can reasonably easily imagine someone else trying a similar scheme with pump-and-dump as a deliberate destination in mind. Does anyone want to buy some Dickson Dollars? You can do loads with Dickson Dollars, they're the best currency in the world...
Even if the intentions behind BitCoin are benign - because, surely as tempting as it is to view BitCoin as malign, it's really tempting to hope and believe (and, perhaps, agitate) that there could be an entirely benign attmept to bring a currency with BitCoin's purported design goals to fruition, regardless of whether or not BitCoin is that currency in practice - I would be inclined to treat all BitCoin-related software with the utmost suspicion. Who knows what sort of malware and other nasties might be introduced onto a system by people looking to take advantage of the next great investment opportunity?
My intention is to regard BitCoins as an interesting curiosity, rather than a sensible investment opportunity for me. If it turns out that I am being the Internet equivalent of the Decca record label turning down the Beatles, or - to bring the analogy up to date - one of the twelve publishing houses that supposedly turned the first Harry Potter down, well, it's still fun to blog about, and I spotted it first when the exchange rate was just under US$9 per BitCoin. (See BitCoin watch or BitCoin charts to follow the exchanges.) Perhaps there's nothing new under the sun after all, and you can't cheat an honest human.
Please redirect any comments here, using OpenID or (identified, ideally) anonymous posting; there are
comments to the post already. Thank you!
Blog posts are not financial advice, of course. This seems to have a lot in common with well-known, long-established scams, but certainly has enough new twists on it to make it interesting. Besides, scams rely on having interesting premises in the first place, and this one has a lovely one. If anyone out there has mad money that they want to throw away - because the risk of ruin on any investment you make must be immense - then this looks like it would be likely to give you a more interesting run for your money than a lottery ticket, or a Ponzi scheme. Despite any vaguely encouraging tone in this post, I would regard this as about as speculative an investment as a penny stock tipped by someone you don't know.
The brilliance of the Bitcoin thing is the sheer number of buzzwords that it manages to trigger in its discussion. It has a respectable-looking academic background, though the original author may well be an even more difficult Satoshi to find than the one from Perplex City. The currency has an interesting and open design to avoid having a central bank, there is no centralised issuing authority, and the measures in place are reckoned to be inclined towards being deflationary rather than inflationary. The principles behind the currency design are sufficient to make things untraceable in theory, though the development team are open about how the current implementation may not match up in practice.
Possibly the most attractive part of the whole scheme is the way that new coins are generated algorithmically through repeated calculations. If your computer performs millions-to-billions of calculations per second for long enough, perhaps you get lucky with what is currently literally a 1-in-2-million-billion shot, assuming I've counted the zeroes correctly (and noting that it deliberately gets harder over time), and discover fifty bitcoins. There are mining schemes which will distribute the effort and share the rewards, which I suppose is the modern version and less noble version of the Great Internet Mersenne Prime Search.
One estimate suggests that, by at least one measure, there is more computing effort active on this problem than available on the world's top 500 computers combined, though possibly orders of magnitude less effort than takes place on other distributed computing projects. Showing the money, another estimate is that a top-of-the-range computer, dedicating the current state of the art in off-the-shelf technology to the task, might be able to earn $30/day from mining alone. A computer that pays for itself in months sounds good, doesn't it? Too good to be true, perhaps?
Really fascinating claims and background, and yet so very difficult to accurately verify. You really need to know an awful lot about quite a wide variety of things to be able to verify the claims for yourself. (Heck, I've spent an hour or two trying to work out how to install a miner for myself, and can't manage it. I'm not claiming to be great at computers, or that it's the hardest thing in the world, because there are obviously very many people who have managed it already - but I would be reasonably happy to consider myself "not too bad".) The Internet is good at distributing this requirement of expertise, though, and it's interesting to see the variety of conclusions that different groups of people reach about the project.
The other reason why it's interesting is because of the parallels to the rest of the world's financial institutions that people have scrambled to establish, on the grounds that the potential upside is immense and it currently remains possible to get in on the ground floor. For instance, if you're bullish on BitCoins, there are plenty of people who've said they'd oppose you, though who knows if they'd really put their money where their mouth is. It's also fun to wonder to what extent the big players offline are paying attention to the scheme, and whether they might somehow yet be involved.
That amazing rise in the exchange rate is so tempting, too, for people who don't even come close to claiming that they understand what's going on, but they think they can recognise a good thing when they see one. I'm sure you don't need me to tell you not to invest in things that you don't understand, and this is not easy to properly understand. However, if the definition of mad money is money that you're happy to invest in things you don't understand -and who really does understand the markets? - then perhaps this could be the Next Big Thing. Even a Ponzi scheme returns... for a while.
At the end of the day, Bitcoins will only be worth anything if people want to buy them; very many other digital currencies have existed over the years, and the only one that's ever had any significant traction is money held at PayPal. (Arguably that's not even a digital currency.) The BitCoin site lists many people who are willing to take them, but again a savvy investor would check out the accuracy of the list and follow its accuracy over time. If it turns out that Silk Road turns out to be the mainstay of the currency, or trade in digital goods considered more harmful still, then it would be all too easy for the payment processors to be abruptly brought to a halt. Sporadic over-the-counter trading might continue, but the rate would surely plummet. What price could I get for $100 in a Full Tilt Poker account after Poker's Black Friday in the US?
So the logical price for a BitCoin can be argued to be likely to be zero in the long-term, with the whole thing proving more bubble-icious than gum, but evidently not zero in the short-term. (If I haven't talked you out of BitCoins as an investment, they must surely be a short-term play. And yet the short-term sometimes winds up being longer than you think...) If the number of BitCoins in circulation has been designed to approach 21,000,000, then it's interesting to consider what a target price might be - and what the people who got in early and mined early coins might stand to be in line for. If people are willing to value .com sites at nine or ten digits US, perhaps the value of an entire monetary system might compare. Hard to see any sort of price-earnings ratio, but if people keep wanting to own BitCoins, then they aren't worth zero. (Yet.)
It's interesting to compare BitCoins to penny stocks - specifically, perhaps this could be a really imaginitively dressed-up pump-and-dump scheme. It's got people blogging about it, it's got people admiring the trimmings. I'm not saying that BitCoin is such a scheme, but I'm not saying it isn't. If it were to be one, could there be a more effective way to promote it than to be a safe digital currency of choice for hard drug transactions? That ought to buy it at least the attention of the public for at least half a week - and, if you can get people gambling using BitCoins, you could probably get another few days out of it as well. If the exchange rate drops to zero in a week's time, someone who started off with sufficiently many BitCoins would stand to receive a sizeable chunk of a nominal market capitalisation of $60 million while they sold off their holdings. There are less lucrative scams to run.
What I will say, though, is that if BitCoin isn't such a scheme, then I can reasonably easily imagine someone else trying a similar scheme with pump-and-dump as a deliberate destination in mind. Does anyone want to buy some Dickson Dollars? You can do loads with Dickson Dollars, they're the best currency in the world...
Even if the intentions behind BitCoin are benign - because, surely as tempting as it is to view BitCoin as malign, it's really tempting to hope and believe (and, perhaps, agitate) that there could be an entirely benign attmept to bring a currency with BitCoin's purported design goals to fruition, regardless of whether or not BitCoin is that currency in practice - I would be inclined to treat all BitCoin-related software with the utmost suspicion. Who knows what sort of malware and other nasties might be introduced onto a system by people looking to take advantage of the next great investment opportunity?
My intention is to regard BitCoins as an interesting curiosity, rather than a sensible investment opportunity for me. If it turns out that I am being the Internet equivalent of the Decca record label turning down the Beatles, or - to bring the analogy up to date - one of the twelve publishing houses that supposedly turned the first Harry Potter down, well, it's still fun to blog about, and I spotted it first when the exchange rate was just under US$9 per BitCoin. (See BitCoin watch or BitCoin charts to follow the exchanges.) Perhaps there's nothing new under the sun after all, and you can't cheat an honest human.
Please redirect any comments here, using OpenID or (identified, ideally) anonymous posting; there are
comments to the post already. Thank you!