The Bitcoin "Price"

Jemima Kelly writes No, bitcoin is not “the ninth-most-valuable asset in the world” and its a must-read. Below the fold, some commentary.

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The "price" of BTC in USD has quadrupuled in the last three months, and thus its "market cap" has sparked claims that it is the 9^th most valuable asset in the world.

Kelly explains the math:

Just like you would calculate a company’s market capitalisation by multiplying its stock price by the number of shares outstanding, with bitcoin you just multiply its price by its total “supply” of coins (ie, the number of coins that have been mined since the first one was in January 2009). Simples!

If you do that sum, you’ll see that you get to a very large number — if you take the all-time-high of $37,751 and multiply that by the bitcoin supply (roughly 18.6m) you get to just over $665bn. And, if that were accurate and representative and if you could calculate bitcoin’s value in this way, that would place it just below Tesla and Alibaba in terms of its “market value”. (On Wednesday!)

Then Kelly starts her critique, which is quite different from mine in Stablecoins:

In the context of companies, the “market cap” can be thought of as loosely representing what someone would have to pay to buy out all the shareholders in order to own the company outright (though in practice the shares have often been over- or undervalued by the market, so shareholders are often offered a premium or a discount).

Companies, of course, have real-world assets with economic value. And there are ways to analyse them to work out whether they are over- or undervalued, such as price-to-earnings ratios, net profit margins, etc.

With bitcoin, the whole value proposition rests on the idea of the network. If you took away the coinholders there would be literally nothing there, and so bitcoin’s value would fall to nil. Trying to value it by talking about a “market cap” therefore makes no sense at all.

Secondly, she takes aim at the circulating BTC supply:

Another problem is that although 18.6m bitcoins have indeed been mined, far fewer can actually be said to be “in circulation” in any meaningful way.

For a start, it is estimated that about 20 per cent of bitcoins have been lost in various ways, never to be recovered. Then there are the so-called “whales” that hold most of the bitcoin, whose dominance of the market has risen in recent months. The top 2.8 per cent of bitcoin addresses now control 95 per cent of the supply (including many that haven’t moved any bitcoin for the past half-decade), and more than 63 per cent of the bitcoin supply hasn’t been moved for the past year, according to recent estimates.

The small circulating supply means that BTC liquidity is an illusion:

the idea that you can get out of your bitcoin position at any time and the market will stay intact is frankly a nonsense. And that’s why the bitcoin religion’s “HODL” mantra is so important to be upheld, of course.

Because if people start to sell, bad things might happen! And they sometimes do. The excellent crypto critic Trolly McTrollface (not his real name, if you’re curious) pointed out on Twitter that on Saturday a sale of just 150 bitcoin resulted in a 10 per cent drop in the price.

And there are a lot of "whales' HODL-ing. If one decides to cash out, everyone will get trampled in the rush for the exits:

More than 2,000 wallets contain over 1,000 bitcoin in them. What would happen to the price if just one of those tried to unload their coins on to the market at once? It wouldn’t be pretty, we would wager.

What we call the “bitcoin price” is in fact only the price of the very small number of bitcoins that wash around the retail market, and doesn’t represent the price that 18.6m bitcoins would actually be worth, even if they were all actually available.

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Note that Kelly's critique implictly assumes that BTC is priced in USD, not in the mysteriously inflatable USDT. The graph shows that the vast majority of the "very small number of bitcoins that wash around the retail market" are traded for, and thus priced in USDT. So the actual number of bitcoins being traded for real money is a small fraction of a very small number.

Bitfinex & Tether have agreed to comply with the New York Supreme Court and turn over their financial records to the New York Attorney General by 15^th January. If they actually do, and the details of what is actually backing the current stock of nearly 24 billion USDT become known, things could get rather dynamic. As Tim Swanson explains in Parasitic Stablecoins, the 24B USD are notionally in a bank account, and the solvency of that account is not guaranteed by any government deposit insurance. So even if there were a bank account containing 24B USD, if there is a rush for the exits the bank holding that account could well go bankrupt.

To give a sense of scale, the 150 BTC sale that crashed the "price" by 10% represents ( 150 / 6.25 ) / 6 = 4 hours of mining reward. If miners were cashing out their rewards, they would be selling 900BTC or $36M/day. In the long term, the lack of barriers to entry means that the margins on mining are small. But in the short term, mining capacity can't respond quickly to large changes in the "price". It certainly can't increase four times in three months.

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Lets assume that three months ago, when 1BTC≈10,000USDT, the BTC ecosystem was in equilibrium with the mining rewards plus fees slightly more than the cost of mining. While the BTC "price" has quadrupled, the hash rate and thus the cost of mining has oscillated between 110M and 150M TeraHash/s. It hasn't increased significantly, so miners only now need to sell about 225BTC or $9M/day to cover their costs. With the price soaring, they have an incentive to HODL their rewards.