Last week, bitcoin first traded for over $4,000, or over three times the price of an ounce of gold.
That’s on top of a near-tripling in the cryptocurrency since the start of the year.
That’s the kind of parabolic move that I warn investors about often— it can be a sign of a bubble. What goes up incredibly quickly tends to give up those gains fast. Already, bitcoin has seen a big dive along the way on its stellar rally this year. There could be more, although I also wouldn’t be surprised to see the currency’s price move higher.
Why the particular warning here? Because bitcoin has become a popular topic of conversation in recent weeks given the big moves that it’s made. Yet bitcoin is a relatively new and novel concept. In less than a decade, the idea of a new currency that could be used for trading goods and services without coming from a government (i.e., dollars, euros, yen, etc.). It’s spawned a few copycat alternative digital payments. And when prices go through the roof, it tends to attract a following. And when a crowd gets all on one side of a trade, things tend to eventually turn ugly.
Remember, unlike the government, which can print currencies at will and otherwise influence the economy, bitcoin stands outside the current system as a means of exchange. It’s possibly even better than gold in the sense that central banks own massive amounts of the world’s supply, and their decision to buy or sell the yellow metal can cause massive price swings there.
Bitcoins are traded through an exchange, essentially a private counterparty. Most of those exchanges are on the up and up. However, early bitcoin investors were hit hard by the closure of the Mt. Gox exchange in 2014. They were handling 70 percent of bitcoin transactions in 2013. But despite the safety of so-called “cryptos,” the exchange stole 850,000 bitcoins—with a value of $450 million at the time. Investors with short-term memory problems tend to avoid the fact that both the person on the other side of the trade and the exchange making the trade matter.
While bitcoin went through a mini-mania a few years back before the Mt. Gox debacle, it slumbered along until finally taking off again in earnest this year.
So yes, bitcoin is hot once again. But for everything that’s being said about bitcoin, its total market cap is about $70 billion. That’s a lot for an individual investor, but in the grand scheme of all the money sloshing around in the markets, it doesn’t look that way in the slightest. All the bitcoin in the world, at current prices, couldn’t even buy 10 percent of Apple (AAPL).
That’s the rub. Bitcoin is still in the “new” phase, where its popularity and knowledge of how it works is just starting to reach the mainstream. The idea that you can throw up some servers and “mine” the cryptocurrency like a digital Forty-Niner is still a fresh one to many investors.
But the easy money has been made. Bitcoins could have been acquired for a dime each when they first came out, and mining new ones didn’t require too much work to acquire. That’s changed.
While the limited nature of bitcoin is appealing, it also prevents massive and widespread use. Interest by investors who normally wouldn’t stray far from stocks and bonds are essentially trying to send an ocean through a firehose. There’s too much capital trying to get into too small a market. Eventually buyers will lose interest and the capital will flow the other way. It’s already happened once with bitcoin, and it happens time and again in other assets like stocks and bonds. Right now, so much capital is moving into the crypto space that it’s starting to look a bit like a mania. So look elsewhere for better opportunities.
That said, is cryptocurrency the way of the future? Sure. So is gold. So is paper money. So is electronic money. And we’ll come up with new ways of trading goods and services as well as time goes on. I don’t see one final currency ruling all. I see, if anything, more diversity of currencies and trading options. Bitcoin is on the vanguard of that. It has its appeal, but it has some serious deficiencies. As long as investors are aware of the good, bad and ugly of any investment, they’re informed enough to make their own decisions.
Right now, I wouldn’t touch bitcoin, given the strength of its current rally. But if it has another crash like it did a few years back, and it likely will given the parabolic move up, count me in for a few more. There’s nothing wrong with diversifying, and if you own something like Bitcoin in its early stages, even a small stake can create a huge fortune. If it doesn’t work out, then having a small stake means no big losses. As an investor, it’s easier to recover from small losses, not big ones. And given the big swings in bitcoin’s price lately, it’s not the kind of asset for the faint of heart to own.
is a Senior Financial Editor with Newsmax Media. He currently writes the Insider Hotline investment advisory, serves as investment director for the Financial Braintrust, and writes the monthly newsletter Crisis Point Investor.
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