In simple terms, this excess depreciation means that the company's real cost for creating income is much higher than they report, and thus their real profit as a continuing business is much less than they report, because they are not putting aside the money they will need to replace obsolete hardware.This was written a couple of weeks after the Terra/Luna crash started on May 7th, triggering the current "crypto winter", too early to see the effect on miners. Now, as the contagion spreads and successive cryptocurrency companies file for bankruptcy, we are starting to see the knock-on effects. Below the fold, a collection of news about mining.
Bitcoin’s cost of production has dropped from about $24,000 at the start of June to around $13,000 now, which may be seen as a negative for pricing, according to JPMorgan Chase & Co.The miners' valuations were based on the stratospheric margins they enjoyed as the progress of BTC "to the moon" starting in the fall of 2020 greatly outpaced the supply of new mining hardware, then fell as China cracked down in mid 2021, then recovered to peak on 7th November. The graph shows the rapid decline in miners' margins since then, culminating with the Terra/Luna collapse when mining briefly became unprofitable. The collapse of miners' valuations was clearly justified.
The drop in the production cost estimate is almost entirely due to a decline in electricity use as proxied by the Cambridge Bitcoin Electricity Consumption Index, strategists led by Nikolaos Panigirtzoglou wrote in a note Wednesday. They posit that the change is consistent with efforts by miners to protect profitability by deploying more efficient mining rigs, as opposed to a mass exodus by less efficient miners. They also say it could be seen as an obstacle to price gains.
Publicly traded miners have struggled along with digital assets themselves. Marathon Digital Holdings Inc. is down 76% year-to-date, Riot Blockchain Inc. has dropped 78% and Core Scientific has tumbled 86%.
Miners need BTC to keep heading up. Note the period on the graph before it headed moon-wards when mining was barely profitable.The slight recovery in miners' margins may not last:
“While clearly helping miners’ profitability and potentially reducing pressures on miners to sell Bitcoin holdings to raise liquidity or for deleveraging, the decline in the production cost might be perceived as negative for the Bitcoin price outlook going forward,” the strategists wrote. “The production cost is perceived by some market participants as the lower bound of the Bitcoin’s price range in a bear market.”
David Pan's Bitcoin Miner Woes Risk Getting Worse After Celsius Collapse confirms that this is what is happening:
The troubled crypto lender’s mining subsidiary also filed for protection from creditors late Wednesday. Celsius Mining said in the filing that it owns 80,850 rigs -- with 43,632 in operation -- and expects to run about 120,000 rigs and generate more than 10,000 coins by the end of this year.
The bankruptcy comes as the value of mining rigs plunges with Bitcoin prices in sharp decline. Some of the most popular machine models have fallen as much as 50% since the last bull run and miners are struggling to complete purchase orders they made several months ago.What these reports don't mention is that flooding the market with older, less efficient rigs and thereby dropping their residual value means that they are depreciating even faster than the estimates from before the Terra/Luna crash, meaning that the problem Paul Butler identified in miners' financials is even worse than his description. He concluded:
Investors have been happy to provide capital to these companies, looking for anything in the public markets that provides some exposure to bitcoin, without paying much attention to what the companies are doing.So far, he is a prophet. These companies, which were essentially a bet that BTC would proceed "to the moon", were struggling to do anything but lavishly reward their executives when BTC was around $30K, but it is now around $20K. Not to mention that most of the rigs are in Texas and, as David Pan reports:
I don’t think it ends well.
Nearly all industrial scale Bitcoin miners in Texas have shut off their machines as the companies brace for a heat wave that is expected to push the state’s power grid near its breaking point.Not merely are their rigs depreciating far faster than before, but they aren't generating any income either. It may be summer, but regulatory winter is coming. Dani Anguiano reports in Energy use from US cryptomining firms is contributing to rising utility bills that:
The largest US cryptomining companies have the capacity to use as much electricity as nearly every home in Houston, Texas; energy use that is contributing to rising utility bills, according to an investigation by Democratic lawmakers.
The lawmakers solicited information from seven of the largest US cryptomining companies, including Stronghold, Greenidge, Bit Digital, Bitfury, Riot, BitDeer and Marathon, about their energy sources and consumption and the climate impacts of their operations. The data revealed that the industry is using a substantial amount of electricity, ramping up production and creating significant carbon emissions at a time when the US needs to drastically reduce emissions to combat the climate crisis.