03/12/2017 Cryptocurrency Boom, or Bubble?...

Cryptocurrency Boom, or Bubble?

Investing in cryptocurrencies seems like senseless speculation at the best of times yet,
is there a case for this continued boom, or will the ostensible bubble burst soon?

Fall, Fame or FOMO

The well-documented horror stories about investments that have gone awry cause angst
in every listener. Stories about leveraged investments that were a sure bet, that ultimately
turned sour, leaving once savvy, successful investors standing in a soup kitchen line, or
worse. Stunning, meteoric rises in fortune are also a common feature in news feeds
where hero investors and their renowned perspicacity is on display for all to see, with
little mention of how hindsight provides 20/20 vision. The lesser documented stories are
those, that are seemingly only told at family gatherings, in pubs and at restaurants the
stories about the one that got away. The once in a lifetime opportunity to get in at the
bottom, that was passed up! These horror stories are avoidable these hero stories are
attainable.

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Brass Balls & Crystal Balls

It is the intention of this article to explore the current threats and opportunities within the
cryptocurrency space and to gauge whether it is near the top, the bottom, or somewhere
in between. It is also the intention of this article to spark a debate regarding thisnascent
asset classthat has stumped even the greatest nancial minds in terms of valuation and
timing of investment. It is not the intention to provide a crystal ball, silver bullet
approach. It is not the intention to prescribe anything. It is not the intention to go deep,
but rather to cover a lot of ground and to present well-lit avenues through which one can
formulate an investment case.

Quick Cryptocurrency Catch Up

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To better position an analysis on whether cryptocurrencies are in a bubble, it is important

to cover the foundations of what cryptocurrencies are, what differentiates them and why
they exist to begin with. Crypto-Genesis Cryptocurrencies are a decentralised, encrypted
form of digital currency that are built on top of a blockchain. The rst and most famous
of them all is calledBitcoin(BTC) which was developed by the mysterious Satoshi
Nakamoto after the nancial crisis in early 2009. It was developed to be a decentralised
electronic peer-to-peer cash system that is cheaper, faster, safer and more transparent than
anything else in existence -that doesnt require a centralised third party to approve
transactions.

AlternativeCryptocurrencies
Since the development of BTC, numerous alternative cryptocurrencies, called altcoins
are being added to the list in a Cambrian like explosion, with Darwinism at the heart of
their survival. These numerous forms of cryptocurrency vary in a few ways, namely in
their:

a.) Mineability The ease with which they can be mined. Some are easier and cheaper
to mine than BTC (more on these in the next article.)

b.) Liquidity The amount and frequency that theyre traded at, at any given point. Some
cryptocurrencies are not even listed on major exchanges.

c.) Function Ether (ETH), for example, isnt considered a currency bypurists as the
underlying coin, ETH, is designed for use as a fee for operating the distributed
applications (Dapps) and is not necessarily designed for trading and settlement in the
way that BTC is.

d.) Acceptance BTC is widely accepted for almost all types of transactions, whereas
other cryptocurrencies are not. Some cryptocurrencies are only useful within their own
tokenised network more on that, and ICOs, below.

e.) Supply A cryptos supply is sometimes innite (ETH) or nite (BTC) which plays
a role in the valuation of these new age assets. Furthermore, the market supply of some

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cryptos is held back through human intervention (seeRipplesXRP being introduced

systematically to avoid ooding) which further contributes to price uncertainties for
some.

f.) Speed The speed with which one can transact is oftentimes limited by the
cryptographic processes underpinning the blockchain itself. Bitcoins transactions are
only recorded every 10 minutes, whereas transactions are recorded every 14-15 seconds
on the Ethereum blockchain.

g.) Transparency A controversial aspect for many, is the fact that some
cryptocurrencies are either transparent or opaque in terms of the identities behind the
transactions. On the one hand opacity enables illegal activity. A large proportion of
cryptocurrency transactions (especially within BTC) are rumoured to be for the sole
purpose of illicit transactions such as money laundering, fraud and terrorist funding. On
the other hand transparent transactions enable accountability to be built into a network,
adding value through providing trust efciencies.

Elusive Intrinsicity
The debate rages on as to where the intrinsic value for cryptos lies what makes it
valuable after all of the extrinsic layers are peeled away? An argument presented here, is
that the intrinsic value lies within the functionality, the utility, that Blockchain and
ultimately cryptos provide, within the new digital economy. Additionally, it is
compounded by the effort required to mine more of it. Yes, gold may be useful in
manufacturing and pretty when worn as jewelry. Yes, oil can be rened into plastics and
other useful forms. Yes, the dollar may hold value through the Fed buying it back at a
certain value (numerous arguments against this backing exist.)

But, cryptos, through cryptographically enabled protocols, built on top of a Blockchain,

that require miners to create supply, opens up a pandoras box of opportunity for safer,
more seamless, faster, cheaper, peer-to-peer transacting of valuable digital assets. In the
digital economy, it is this inherent value that nancial analysts seem to be overlooking, or

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misrepresenting. The next step could be to classify it as a separateasset classand to

formulate a way to capture and quantify this inherent value.

Case for a Boom

Ripples XRP is up

3600%
this year alone

What are the factors underlying the current boom in cryptos? What are the forces
inuencing this growth? Below is a list of some of the major forces contributing to a
crypto boom:

1. Equities are a Poor Analogy Equity valuations are, at the very heart of things, based
on the underlying assets ability to produce future earnings cryptocurrencies on the
other hand, are not. Thus, asJosh Hannahpoints out, the value of a crypto, such as BTC,
can grow at an exponential rate, much faster than most real-world businesses owing to
the fact that it is untethered by building products or services.

2. Demand eats Supply for Breakfast The majority of investors in BTC and other
cryptocurrencies are said to be speculators driven by hype (see graph below, which
highlights investment into BTC tracking Google searches for Bitcoin.) According
toMarketwatch.comBTC is up 740% (YoY), ETH is up 4600% this year and Ripples
XRP is up 3600% this year alone. Demand is clearly outpacing supply at a rapid rate. A
more interesting calculation would be to denote the number of rst-time investors,
sophisticated investors, arbitrage traders, OTC traders and illicit investors. By
understanding the who, one can deduce the why, where and when and ultimately
formulate a more accurate model for valuation. Whether exchanges (and other sources)
will be able to eventually publish data like this is yet to be seen.

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Source:Medium.com/@mcasey0827

3. Flight to Safety A strong argument forcryptocurrencygrowth is the fact that some

cryptos are being traded as a ight to safety asset, similarly to gold. With a lower
correlation to the market, higher returns on offer, faster transaction times and lower
transaction costs, cryptos could offer an opportunity to reduce volatility whilst delivering
premium returns.

4. Institutional investors Cryptos currently have a tiny market-cap when compared to

other asset classes, but institutional investors interest is building.

5. Recognition Recognition of BTC as a legitimate currency by a nation, or even a

large multinational, generally spells success for a cryptocurrency. It adds credibility and
promotes demand.

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Source: CoinMarketcap.com

Total Market Cap 06/09/2017

Case for a Bubble

These are the factors that will drive down the value of a cryptocurrency. As with the
Boom factors, some factors carry more weighting in terms of impact. They have been
listed in no particular order of relevance as follows:

1. ICOs and Darwinism Initial Coin Offerings (ICOs) are driving the crypto boom. In
essence, theyre a form of crowdfunding using crypto tokens created by the company
raising the funds using this mechanism. Some are built by competent teams, with
genuinely valuable offerings. Most offerget-rich-quick schemes backed by a mere white
paper and very little else to secure investor returns. Theyre an incredibly risky
investment, with little to no regulation existing within a space lled with snake oil. This
high-risk bubble is sure to pop soon when it does, itll spark a sell-off and many will be
caught with their pants down. TheChinesehave already instituted regulation in this
space, banning them outright. Interestingly,Russiahas opted to allow them, whilst trying
to alleviate some of the pain points.

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Source: CoinSchedule.com

Source: CoinSchedule.com

2. Greater Fool Theory The belief that the asset will continue to rise and that one will
always be able to sell at a higher price is inviting a lot of speculators, as previously
mentioned. These speculators add to the volatility of the asset class and will most
certainly contribute to the velocity in a downturn.

3. Valuation Ratio Analysis The Mcap to Transaction Value(MTV) Ratioprovides a

PE ratio equivalent for BTC and can act as a guide for crypto valuations. The lower the
ratio the more thevalue is grounded in its utility. The higher the value the more
overvalued, when compared to its utility.

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Source: CoinMarketcap.com

4. Regulation The effect will depend on the level of regulation. Restricting transaction
volume through heavier regulation will inevitably affect the value of a cryptocurrency
negatively, in the short term. The risk of no regulation is that investors in unregulated
exchanges and tokenized networks will have no initial legal recourse and there is an
inherent lack of transparency one of the major reasons for regulators to try tocatch
upclamp down. (High Probability Weighting)

5. Nascency Cryptos are still the new kids on the block when compared to other asset
classes. Their nascent nature means that there are still many kinks that need to be ironed
out. These kinks can be volatile and are surrounded by enormous uncertainty.

6. Hacks Hacks like the ones that occurred atMT Gox& EtheruemsDAOwill happen
again when they do, the effect will be a net negative on cryptocurrencies.

7. Systematic & Systemic Shocks Cryptos arent as correlated to traditional markets as

other more established asset classes. This makes them an attractive hedge and (as
previously mentioned) a form of ight to safety. The caveat, however, is that they dont
yet have a calculable intrinsic value, the market cap is too small and the market too
volatile to provide an effective safe zone for investors to park their cash during
turbulent times.

Conclusion

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There will undoubtedly be a drop off in crypto valuations. Some of them will also
continue to rise to heights inconceivable at this point. There will be new entrants that
supersede current leaders. The rise and fall stories that play out will be the same the
timing of which is dependant on the aforementioned forces and factors at play. In a world
lled with uncertainty, it would be churlish to offer advice on where to invest your at
currency, especially in the short term.

There is, however, enough anecdotal evidence to suggest that blockchain and
cryptocurrencies are here to stay. It could prove too costly to sit this one out altogether. It
could also prove too costly to mistime and miscalculate investment in this asset class,
without taking the downside potential into consideration. Either way if one is interested
in being a part of the group that tells a story of success it would inevitably involve
perfect timing, selection, and management of ones investment in a well-traded
cryptocurrency. Based on the following evidence and for the sake of gauging where are
we are in the cycle it is suggested that cryptocurrencies are nearing the top of an
inevitable drop off, based on the ICO bubble bursting:

Phase 1 Current

1. ICO Growth ICOs are expected to balloon further, as speculative investors chase exponential
returns, foregoing rationality.
2. Institutional Investment Institutions will create ways to enter the hubbub.
3. MTV Bubble Indicator Cryptos, are on average, trading well above their MTV this ratio will
continue to rise as ICO speculation drives the bubble.

Phase 2 Short to Medium Term

1. ICO Burst ICOs are out of control (literally, without regulation) and too many bad apples will
enter the fray. The bubble will burst when investors fail to receive promised returns and or when
ICO company founders are found out for fraudulent behaviour.
2. Regulation The powers that be are already clamping down and will clamp down harder when the
inevitable ICO bubble bursts.

*The timing of the above factors is based on a short to medium term (6 12 month)
view.

Whats Next?

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With the above overview in mind, the timing and type of crypto investment is the subject
of the next article in this two part Cryptocurrency series. It will cover the ins and outs of
the top 6 cryptocurrencies, as well as the ways in which one can invest including
information about the best software, hardware, exchanges and wallets to do so.

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