Dubai: With Bitcoin prices soaring this week, multiple market gurus are now sounding the alarm on how it is bordering at dangerously high prices, while warning of the cryptocurrency’s inherent risk and predicting an imminent just as massive drop.
Beyond the positive news of vaccines being either manufactured in bulk or rolled out in different parts of the world, this has been a week of historical gains for the largest cryptocurrency in the world by market cap, Bitcoin.
On Wednesday, December 16, investors witnessed Bitcoin blow past its previous high and eclipse $20,000 (Dh73,456) per token (unit of Bitcoin, BTC, i.e. ‘bitcoins’). In fact, Bitcoin went on to also blow by $21,000 (Dh77,129) and $22,000 (Dh80,802) merely within a matter of hours, a rise widely seen among analysts as ‘unprecedented’.
Bitcoin soaring past milestones
Throughout its monster weekly rally, Bitcoin's price, which is currently dipping, set new record highs in four of the past five days, reaching the current record high of $24,273 (Dh89,150) on Sunday, according to CoinDesk's Bitcoin Price Index (BPI). Only nine other times in the past five years has Bitcoin seen a weekly gain larger than the one posted this week.
For as volatile as the stock market has been in 2020, you wouldn't know it by looking at Bitcoin, which is up by 200 per cent on a year-to-date basis as of December 19. Veteran investors and trend watchers opine that this jaw-dropping rally is rebuilding the euphoria that overtook the crypto community back in 2017, and probably has folks believing cryptocurrency is a good investment.
However, this sentiment has been brushed off by most as ‘unrealistic’ and is strongly warned against pursuing as an investment, with many reiterating how such a rise just adds to the existing risk. Let’s then explore and elaborate why is then the cryptocurrency still rising so strongly amid the prevalent skeptic market views.
Why does Bitcoin rise more so than others?
Generally the currency has been rising on the view or perception on how scarce it is. It currently has 18.57 million tokens in circulation and a limit of 21 million. Over time, the remaining 2.43 million tokens will be mined via transaction proofing and block rewards.
The winning miner claims a block reward by adding it as a first transaction on the block. At inception, each bitcoin block reward was worth 50 BTC. The block reward is halved after the discovery of every 210,000 blocks, which takes around four years to complete. Since May this year, one block reward was worth 6.3 BTC, dropping from earlier value of 12.5 BTC.
Once the transaction is agreed between the users, it needs to be approved, or authorised, before it is added to a block in the chain. For a public blockchain, the decision to add a transaction to the chain is made by consensus. The people who own the computers in the network are incentivised to verify transactions through rewards. This process is known as ‘proof of work’, or ‘transaction proofing’.
With only so many tokens to go around (fractions of a token can be bought and sold), the buy thesis suggests that this scarcity makes bitcoin an excellent investment. However, a key underlying risk is that bitcoin lacks genuine scarcity.
Its perceived cap of 21 million tokens exists because of an algorithm, which can be rewritten. In comparison, a precious metal like gold has a hard supply limit as the only gold that's available is what's been mined or is still underground. So when the only parameter of scarcity is written code, it isn’t widely viewed as ‘true’ scarcity.
Investors still rushing to buy
In 2020, the rise of Bitcoin is driven by institutional investment, meaning large hedge funds and publicly traded companies are driving these prices and they don’t present the same drawbacks that retail (individual) investors do.
Moreover, an increasing number of asset managers have begun to concede Bitcoin as a hedge against volatile currencies and gold, with key investors such as Paul Tudor Jones having bought into Bitcoin, holding a portion as a hedge against inflation.
Investors are racing for exposure to the rally -- even if it means paying an absurdly high markup and the mania pushed the price of the Bitwise 10 Crypto Index Fund (BITW) as much as 650 per cent above the value of its holdings and is currently trading near 350 per cent up, according to data compiled by Bloomberg.
Analysts say that such premiums showcase overwhelming investor demand to obtain Bitcoin exposure through means other than direct ownership or via crypto exchanges.
Outlook varies starkly among analysts
Analyst estimates vary wildly as to where the price of Bitcoin will land. Some say that it may reach $60,000 (Dh220,370) by next year, others believe it might even break $100,000 (Dh367,284).
But most realists warn that Bitcoin is still a very volatile asset that’s likely to keep experiencing ebbs and flows, with the next year analysts eyeing fluctuations as big as 20-30 per cent in Bitcoin value. However, there are many others who are largely optimistic about the future.
The optimists are of the opinion that these fluctuations are not going to be enough to slow it down and that Bitcoin will likely break $50,000 (Dh183,642) in 2021.
However, the market trend is clear. Despite Bitcoin’s variability, new bull cycles (to rally or to persistently rise) see the highs go higher and the lows get higher as well. This is to say that Bitcoin keeps breaking its previous records and stabilising at higher prices after its drops.
Verdict: Is Bitcoin the new future or is this a rally of false hopes?
While ‘momentum’ can be a powerful price propellant, with the actions of a single investor inducing others to follow them into a trade – regardless the reason, doubts on how overinflated the rally is, remains.
Interestingly, the ambitious price target predictions for Bitcoin can be viewed as a repeat of 2017, when equally exorbitant predictions were made for Bitcoin's future. Back then, the cryptocurrency's astronomical prices fell as quickly as they had risen, leaving a trail of disappointed investors and shuttered investment firms.
