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Dear Fellow Investor,
While bitcoin recently saw a 30 percent correction to a speculative bubble, the same cannot be said for competing cryptocurrencies, known as altcoins.
Before their inevitable undoing, in dot-com style, the natural escape is gold — and you want to get out ahead of the stampede.
Cryptocurrencies serve a noble purpose: a modern, digital alternative to pernicious central banks and manipulated fiat currencies. Their decentralized structure made me a fan back in 2011, when they were still the new kids on the block.
The goal of bitcoin, first released in 2009, was a peer-to-peer medium of exchange, and tech-oriented libertarians went right to work advocating for its use and setting up platforms for that to happen.
Bitcoin has its share of shortcomings, however, and many altcoins quickly began to appear on the scene with refinements. None have unseated bitcoin, but ethereum has come close, with half the market capitalization. Ripple is in third place with $79 billion, versus bitcoin’s $233 billion.
Since those early days, there has been an important change in cryptocurrency markets: Even as bitcoin’s functionality has waned, given capacity limits of the ledger, demand has soared. Initial gains for bitcoin, and later even greater gains in many altcoins, have attracted enormous attention and generated a great deal of unhealthy hysteria.
The predicament is that more and more people are simply holding cryptocurrencies for speculation, with little to no interest in using it for exchange.
While I am all for speculation, unfortunately those getting in late demonstrate a great deal of naiveté and reliance on the greater fool theory. A few key facts attest to a repeat of the dot-com bubble and a painful end for the vast majority of altcoins.
For example, money exhibits the network effect. The more people that use a specific type the more it will be useful. While bitcoin may fall from grace and lose out to direct competitors like bitcoin cash, no one is going to be using dozens, let alone hundreds, of cryptocurrencies.
At present, there are 783 altcoins with market capitalizations of more than $1 million, and 42 in excess of $1 billion. You don’t need to be a mathematician to realize there is a lot of money tied up in speculations that simply will not pay off.
All this herd-mentality speculation is also working against the success of both bitcoin and the altcoins. Even if bitcoin and competitors have set limits on the quantity in circulation, the frenzy has generated one of the most volatile assets on the planet, and turned possession into a lottery ticket.
The exception is those altcoins tied to tangible assets, which ensure a clear value maintained, if necessary, by arbitrage. Although young, there are a handful of altcoins tied to gold, and no doubt there will be more.
Just when the rush to the exits will come, one cannot say. However, when simply adding blockchain to a company’s name garners a higher share price, any rational fundamental analysis has departed and it seems the end doesn’t lie too far ahead.
Regardless of when the day of reckoning may come, you can still get ahead of the pack. But where should one focus? Logic says the transfer of speculative money out of the sector is likely to benefit gold, the major cryptocurrencies (since they are most likely to prevail), and the altcoins tied to tangible assets.
In particular, gold is the opposite of unbacked cryptocurrencies, since it doesn’t need backing. It is backing.
Further, since there is a strong ideological basis for using and holding altcoins in defiance of both central banks and prohibitions in many countries, private money like gold will be a natural alternative.
To compound the effect, many individuals dumped gold to hold bitcoin, so they will be inclined return to whence they came.
As Phillip Streible, senior market strategist at RJO Futures, explained recently on CNBC, when bitcoin futures go negative, gold as a “safe haven, store of value, [gold] will start to get people back.”
Fergus Hodgson is an economic consultant and Gold Newsletter’s roving editor.
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