bitcoin_bubble

Bitcoin Watch 2013 continues with the alternative digital currency currently trading at all-time high of $788 on the Mt. Gox exchange. For those keeping score at home, bitcoin has more than tripled in the last two weeks, and is up roughly 60-times for the year, after opening around $13 on January 1.

On March 15 of this year, I wrote a post titled, “Welcome to the Bitcoin revolution, there’s no going back now.” The price at the time was $35. The response was generally one of excitement and curiosity, but it didn’t bring out the crazies – the bitcoin bulls and bears. But 10 days ago, when I wrote about what was then an all-time high, declaring “The case for Bitcoin at $340 is not that crazy after all,” the backlash made it seem like I suggested that that Jesus was a Muslim.

I’m not alone in predicting this runaway. On the same day, Business Insider founder Henry Blodget wrote a similar piece called, “Bitcoin Could Go To $1 Million.” (He was only partially kidding.) In it, he wrote:

I don’t have a bitcoin target. But I was getting at a more profound point. $400 is a perfectly reasonable target for bitcoin. As is $1,000. As is $10,000 or $100,000 or $1 million. – And as is $0.01. – This is because bitcoin has no inherent value. Its adherents refer to it as a “store of value,” but bitcoin is only a “store of value” because, right now, its price keeps going up.

Blodget joined us last week for a fireside chat and elaborated – in his characteristically gregarious style – on why bitcoin is so interesting. He said:

I think bitcoin is the perfect asset bubble, perfect. Why do I say that? Because, for several reasons.

First, there is a good underlying story. The world does need a digital currency that crosses all borders, is not tied to any particular currency…

Next, you can’t value it. If you want to see the ludicrous stories that people tell themselves, just tweet that bitcoin is a bubble, and you’ll immediately get attacked. It’s a completely arbitrary number made up by people who want to tell themselves a story that they’re not completely recklessly gambling their money by buying bitcoins…

But I wrote a thing last week saying bitcoin may go to $1 million. And I believe that, because you cannot tell me that $1 million is any more ludicrous than $0.01. There’s no way to value it, you cannot. It’s only driven by someone else’s value for it.

And the only thing I would say, strenuously, is that someday it’s possible that… demand could evaporate overnight. Overnight, literally.

And there, in between the layers of Blodgetian excitement, skepticism, fantasy, and sarcasm, is the rub: There’s no outcome for bitcoin that can be taken off the table at this point.

Like most commodity markets, the key to bitcoin’s fluctuations is almost entirely predicated on supply and demand. Demand for bitcoin continues to grow, but supply is mathematically constrained based on the underlying cryptographic protocol – not to mention the fact that supply growth is programmed to decelerate until ultimately reaching a fixed state in a little less than a decade.

Initially, bitcoin adoption was largely confined to single, white, Libertarian, male technologists in their mid-30s – or as Blodget calls them, “associated freaks…and eccentrics.” As the “bitcoin religion” spreads further around the globe, it will only add to the existing supply imbalance. This already happening as China appears to have discovered bitcoin – and survived its first major case of fraud with barely a blip – as have the Venezuelans and several other non-anglo populations. It’s only when (if?) demand wanes, that this rocketship will come plummeting back toward earth.

This week is a big one for bitcoin, as the cryptocurrency will be the front and center in two congressional hearings. Today, the Senate’s Homeland Security Committee met to discuss the risks and threats associated with bitcoin and other alternative, digital currencies. Tomorrow, the Senate Banking Committee will meet discuss the potential financial impact of these currencies. The bitcoin market will presumably be waiting to hear the outcome of these hearings – much like Wall St. awaits comments from the Federal Reserve – but today’s hearings have yet to slow down the current rally.

There’s no telling where bitcoin will top out, or for that matter how quickly it could come down. As Blodget said when discussing the stock market excesses of the dot-com era, “During a bubble, there are only two kinds of investors: those who feel like an idiot for selling too early, and those who feel like an idiot for selling too late.”

If you’ve been brave enough to buy a ticket to the bitcoin roller coaster previously, plan your exit wisely – the ground’s a long way down. If you’re thinking about hopping aboard now, don’t forget to pack your parachute, and maybe a barf bag.