Cryptocurrencies to Send Banks the Way of Blockbuster
In 1994, I was working for HBO at a low-level programming job. I had begged for the job. I wasn’t qualified, but they gave it to me anyway because my boss’s boss’s boss was a fan of chess and he accidentally saw me playing in the park after I failed the interview.
My job was to get HBO streaming interactively on cable lines. Don’t ask.
I said to my boss, ‘The technology to do this is already done. It’s called the web. Why do I have to invent an entire new way to stream content?’
He said, ‘James. Calm down. The cable guys know what they are doing. This internet thing is popular with academics but is just a fad.’
And that was that.
Which brings me to cryptocurrencies…
Bitcoin is NOT in a bubble
One of the questions I’m often asked about cryptocurrency is: ‘Is bitcoin in a bubble?’
It’s an interesting question that I’ve touched on in the past, but would like to take some time to further address since the answer is not super intuitive.
Since the dotcom bubble and the 2008 recession, calling bubbles has become a favourite pastime for some people.
With bitcoin, people have been calling it a bubble basically since the beginning. For bitcoin bears, their predictions might look something like this:
Bitcoin at $4: ‘Bitcoin is overpriced; this is a bubble.’
Bitcoin at $40: ‘Total insanity — everyone will lose their shirts.’
Bitcoin at $400: ‘I can’t believe anyone is stupid enough to buy this.’
Bitcoin at $4,000: ‘This is a fad — it’s just like tulips.’
Not a week goes by where some extremely bright finance professional doesn’t weigh in on why they think cryptocurrency must be in a bubble.
In March 2014, Warren Buffett went on CNBC and told viewers to stay away from bitcoin; viewers persuaded by the Oracle of Omaha missed out on a 620% run-up in the past three and a half years.
In the past month, both Jamie Dimon (CEO of JPMorgan Chase) and Ray Dalio (Chairman of Bridgewater Associates, the largest hedge fund in the world) went on record saying they believe bitcoin is in a bubble.
I don’t need to tell you that these guys are incredibly sharp. And in a lot of cases, they are right. So how is it that they can be so incredibly wrong about digital currency?
For one thing, cryptocurrency stands to disrupt their business (more on this later).
Additionally, valuation of currency is difficult. Unlike real estate or stocks or bonds, currency doesn’t intrinsically produce an income stream — dollars stuffed under a mattress won’t increase in value over time by themselves, although ownership of a stock might.
This difference is important because existing financial models depend on income streams in order to determine a fair price.
Because currencies do not produce income, the price is driven by supply and demand, making long-term price projections almost impossible.
Additionally, currencies are different from other assets in that their value is determined by the number of people willing to place their faith in them and accept them. Case in point:
US dollar: Near universal acceptance, currency of choice for approximately 323 million Americans (and billions more worldwide), very valuable.
Haitian gourde: Accepted by roughly 11 million Haitians, has lost half its value since 2013, turns out Haitians prefer the US dollar as well (go figure).
Economists call this a network effect. The most easily observable network effect is the telephone. If I’m the only person in the world who has a telephone, it’s not very useful. If my friend gets one too, it becomes more useful. If everyone in town has a telephone, it’s even more useful.
In economic terms, the value of my telephone grows with each new person who gets one. Currencies benefit from the same phenomenon.
If I’m the only person in the world who accepts a currency, it’s not very useful. However, as more people are willing to accept a currency, the utility of the currency actually grows.
This is essentially what makes cryptocurrency fundamentally different from other investments.
When you buy stock in a company, it doesn’t impact the cash flow of the company, so the value of the company is the same whether you buy it or not. However, as we discussed with currency, as more people accept it, the more value it has.
For many people (including Dimon and Dalio), the idea of a currency that is not backed by a government is hard to absorb.
However, it wasn’t too long ago that trust in the government wasn’t enough and all currencies were backed by gold. As I’ve discussed in the past, the movement to digital currency represents a natural progression towards reliance on data to solve our problems.
Before Uber became commonplace, the idea of getting into a stranger’s car seemed borderline insane. Taxi companies would have you believe that the minute you stepped into a stranger’s car, you were going to get stabbed (best-case scenario).
Now it seems that they were on the wrong side of history. New York City taxi drivers who were unlucky enough to buy a medallion in 2013 for $1 million would’ve found that same medallion was now worth $186,000 at this month’s medallion auction.
Do you want to own Blockbuster or Netflix?
It doesn’t take a stretch of the imagination to understand why financiers like Dimon, Dalio and Buffett are pessimistic about the future of digital currency.
Existing financial systems greatly benefit from the limited access to capital to members of their boys’ club. JPMorgan’s ability to profit is dependent on customers depositing funds in a bank.
However, cryptocurrency negates the need for a bank to safely store funds. In fact, Dimon has even expressed his concerns regarding cryptocurrency in the past.
In a letter to shareholders in 2015, Dimon stated that, ‘Payments are a critical business for us… But there is much for us to learn in terms of real-time systems, better encryption techniques, and reduction of costs and “pain points” for customers.’
For years, executives at Blockbuster Video dismissed the very real changes happening to their business model while Netflix ate their lunch.
In fact, Blockbuster had the opportunity to buy Netflix for $50 million in the early 2000s, but refused because the price was too high (Netflix has recently been trading at a market cap of $80 billion).
When people ask whether I think cryptocurrency is in a bubble, the best response I can give is: Which side of history do you want to be on?
I want to make a lot of money by identifying which cryptocurrencies are legit (start here) and which are not. I’ve built the team and network to do that. I also am happy to always be the first in trends.
And I can honestly say that cryptocurrency is the most exciting thing I’ve seen since I first used the World Wide Web in 1992.
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