The Long-Term Drivers of Bitcoin

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Last week, in an opening salvo into the Bitcoin trading world, I suggested that you may want to look at a long position in Bitcoin against the U.S. Dollar to take advantage of the weakness in the previous weeks. That looked good initially as the expected jump came and would still be showing a profit, but the retracement over the last couple of days upheld what I said at the time, that this was a fairly long-term idea and as such required a belief in the fundamental value of the virtual currency.

I am not a Bitcoin evangelist, nor an expert, but then neither am I a hater. I simply have a trading background and therefore have an interest in a volatile market. The deeper I have looked into the phenomenon, however, the more convinced I have become that Bitcoin has a future and could have a lasting influence on the world of business and finance.

My writing on the subject has prompted several discussions with people who hold a range of views, but I have yet to find anybody who has given me what I consider a convincing argument as to why they believe it will fail. If you have such an argument, feel free to enlighten me in the comment section. Usually that view seems to be based on an inability, or sometimes an unwillingness, to understand what Bitcoin is and how it functions. Some have said that it is all an illusion based on perceived rather than real value, at which point I gently point out that the same is true of the pieces of green paper that they dedicate so much of their life to accumulating.

To me it seems that a virtual peer-to-peer currency is just that, a currency, but one with the built in advantage of an inherent limit to supply. If the argument is simply that it is overvalued, then fine; I disagree at current levels, but every trade needs a buyer and a seller. While that disagreement may result in short term volatility, though, it is hard to see how a currency that has some degree of scarcity can, over time, fail to appreciate against one where supply continues to increase.

That function as a currency, though, is important, as supply is only half the story. That is why I included in last week’s piece the expansion of merchants accepting Bitcoin for payment as a positive upward driver of price. As Cloud Jacking rightly pointed out in the comments on that article, though, in the short term that is actually a negative for the exchange rate. The Bitcoin that is spent is immediately converted to dollars, so more merchants mean more sellers and therefore downward pressure on price. That is true, but if Bitcoin is to establish itself as a genuine global currency, then wider acceptance is essential. Once that comes, the dynamics of limited and decreasing supply versus the ever expanding supply of other currencies take over.

I also touched on the growing use of Bitcoin in third world and developing nations. I don’t wish to drift into the hyperbole that so often characterizes true believers in technological innovation, but it strikes me that in that respect a virtual currency has transformational potential. I am speculating to some degree, but it would seem logical that building wealth in many of those nations has been discouraged by the tendency of governments in the past to inflate away the value of wealth stored in the native currency.

As the Chinese government discovered, exchange controls on something that exists in a virtual environment are difficult, if not impossible to enforce, so there is now a way for those of an entrepreneurial bent in poorer nations to store and accumulate wealth. Call me a crazy idealist, but I believe that that will encourage innovation and entrepreneurship in those countries. In the short term that may have some detrimental effects in developed nations but generally expansion of the global economy is a good thing. Regardless, it will provide a growing source of demand.

None of this means, however, that Bitcoin is necessarily going to appreciate over the next few weeks or months. Market dynamics make that likely, but not certain. That is why I recommended a stop loss be put in place just below the $400 level if you were to buy at around $475. In fact if that level breaks a run back down to around $200 would look likely, so if your trading platform allows it a short with a tight stop may be a decent strategy if that happens.

If it does, and I suggest such a trade though, it would be just a trade. There are strong enough long term drivers to suggest that, as hard as it is for some to comprehend, Bitcoin is here to stay. 



The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of The NASDAQ OMX Group, Inc.



This article appears in: Investing , Forex and Currencies , Economy , Investing Ideas

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Martin Tillier


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