The patron saint of value investing, Benjamin Graham, wrote in the midst of the Great Depression that “in the short run, the market is a voting machine but in the long run, it is a weighing machine.” The deep truth of this statement has informed the art and science of investing ever since. For Graham, the ‘weight’ of a company was its innate value, the usefulness of its assets to society, as embodied in its ability to generate cash flows. But what if a security has no such associated ‘weight’ for the market to measure, no intrinsic utility that might be used to assess its long-term value? In such a case, the value of that security is entirely dependent on the consensual belief of market participants. That is the case with Bitcoin and other cryptocurrencies today.

 

Is the market’s consensual belief in Bitcoin well-founded? There are at least three reasons to suspect that it may not be.

 

Firstly, the same ‘distributed ledger’ technology that enables Bitcoin, equally enables an infinite number of competing currencies. At present, the ones with the most public interest are Bitcoin and Ethereum. However, with every new cryptocurrency contender, the attention span and purchasing power of the people is fragmented. And because the legitimacy of a currency is a function of the number of participants willing to transact with it, fragmentation of that participant base is corrosive to the entire cryptocurrency system.

 

Secondly, if Bitcoin or some other cryptocurrency was in fact to garner enough participants to displace fiat money, perhaps the US dollar, it would necessarily entail a massive wealth transfer from the late-comers to the early-adopters. If we denominated all American fixed assets in terms of Bitcoin, of which there is a limited supply, this would lead to a rapid escalation in the price of Bitcoin. And because the majority of Bitcoins have already been mined, the individuals who already own Bitcoin would see an exponential increase in their wealth – at the expense of those who are late to the party. Put another way, investing in Bitcoin is the logical equivalent of speculatively buying land in Siberia, and then hoping to profit by convincing all of Manhattan to move there. We would think that Manhattanites are too clever to fall for the ploy.

 

Lastly, sovereign governments will simply not give up their power of seigniorage in paper money. The printing of fiat money, along with taxation, are the primary means of governmental influence in the economy. Therefore with a stroke of their pen, legislators across the world can and will change the regulatory regime for cryptocurrency assets.

 

The most charitable conclusion to be drawn on Bitcoin is that it will grow in popularity, but will ultimately be relegated to fringe economies where trust in fiat currencies is particularly weak. This does not mean that the price of Bitcoin will collapse, in fact it may rise further. But ultimately, investing is about measuring the worth of assets with Ben Graham’s proverbial weighing machine. Everything else is just speculation.