Bitcoin’s meteoric skyrocketing this year has been astonishing, captivating traders across the globe. This once-obscure cryptocurrency has exploded into the world’s hottest market. With fortunes being won on paper, everyone is talking about bitcoin. But with its price shooting parabolic, unfortunately this wild ride has all the hallmarks of a classic popular speculative mania. And those all end badly, totally collapsing.
In the annals of financial-market history, the word “mania” is never used lightly. These are very-rare events where some market blasts higher so radically that it captures the popular imagination. The dictionary definitions of mania include “an excessively intense enthusiasm, interest, or desire” and “a pathological state characterized by euphoric mood, excessive activity or talkativeness, and impaired judgment”.
The seminal book on popular speculative manias is Charles Mackay’s “Extraordinary Popular Delusions and the Madness of Crowds”, first published way back in 1841. Manias are certainly nothing new, they have been periodically erupting for many centuries if not millennia. Mackay’s incredible work is one of the few must-read books for every investor. I’ve read it several times in my life, starting back in college.
Mackay’s title is brilliant, perfectly summing up manias. They are truly extraordinary popular delusions, illustrating the madness of crowds. Objectively, this year’s extreme bitcoin action definitely fits that bill. I say this as a lifelong student of the markets. Like the objects of lust in past popular manias, bitcoin and its underlying blockchain technology have real potential to change the world. But that doesn’t justify its price.
As a techie, I started getting interested in bitcoin about 5 years ago, well after its birth in January 2009. It was intriguing as the world’s first decentralized digital currency, an Information Age end run around the established government fiat-money systems relentlessly being inflated away by central banks. Bitcoin’s never-unmasked creator going by Satoshi Nakamoto was a marketing genius, wrapping bitcoin in gold terminology.
The “coin” suffix implied bitcoin is money, rather than a virtual fiction with artificial scarcity. And it used a novel distributed-ledger technology called blockchain. That is a record of all bitcoin transactions that is broadcast and validated by the entire bitcoin network. This ensures that bitcoins can be transferred with no counterparty risk, trust is irrelevant. Maintaining the blockchain is called “mining”, again bringing gold to mind.
The countless computers all over the world participating in recordkeeping for bitcoin’s blockchain work to simultaneously solve complex cryptographic problems, or hashes. This mining guarantees that all new bitcoin transactions are legitimate. While it is computationally-intensive which requires much electricity, bitcoin ingeniously awards participating miners with newly-created bitcoins. That’s a heck of an incentive today!
Somewhat like gold, the bitcoin supply grows at slow and ever-decreasing fixed rates. Today there are around 16.7m bitcoins in circulation. 12.5 new ones are created every 10 minutes and distributed to the miners maintaining the blockchain. That supply-growth rate will be gradually halved again and again until the bitcoin supply hits its hard-coded maximum of 21m bitcoins after 2110. So bitcoin’s supply is artificially limited.
Repurposing old computers to mining is what sparked my initial interest in bitcoin. I run a small financial-research company where we must periodically replace our high-end computers. So I investigated putting some of our old put-out-to-pasture ones to work mining bitcoins, but at the time the electricity cost well exceeded the resulting bitcoins’ value. Back then bitcoin mining didn’t require specialized custom-made rigs.
When bitcoin was younger, normal computers could solve the necessary cryptographic hashes to keep the blockchain up to date. As this distributed ledger grew, more-powerful high-end computer-graphics cards were needed. Today bitcoin mining requires computers with processors designed from scratch to do nothing but grind on the blockchain, called application-specific integrated circuits. They get very expensive.
Truly bitcoin and its brilliant blockchain distributed-ledger system are amazing technologies. They will ultimately reshape how we buy and sell goods and services, shifting the balance of power in currencies back away from centralized governments. It’s hard not to be a bitcoin enthusiast. That being said, it’s critical for traders to divorce bitcoin’s extreme mania price action from these technologies’ future potential.
For 18 years now, I’ve written an essay like this nearly every week. Wednesday mornings I decide on a market topic, research it, and build any charts. So our Zeal charts are always current to Wednesday’s close. Then on Thursday I write and proof each essay before publishing it Friday morning. Normally that day-and-a-half between finalizing the data and releasing an essay doesn’t matter, but bitcoin’s mania is crazy.
Bitcoin trades nonstop around the world, with transactions always happening and the blockchain always being updated. Around the normal US stock-market close this Wednesday, each bitcoin was priced at $12,968. So all the data, charts, and analysis in this essay is based on that ancient price. Merely 18 hours later as I pen this essay, bitcoin has rocketed another 18.6% higher to $15,379! Its ascent is meteoric.
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