My View on Bitcoin: Is it Undervalued or Overvalued?

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With the extreme volatility in its price (from breaking $20,000 at the end of last year to the massive dip we saw recently that almost went below $6,000) to the uncertainty about its full transactional value, I think that in the current short-term volatile and manic environment Bitcoin is overvalued.  I’m bullish on Bitcoin in the long term, however, and believe that Bitcoin will eventually become increasingly indispensable to society and its users due to its use case potential and its function as an immutable ledger. Additionally, given the limited supply, there will always be a price to bitcoin.

There are a number of people in the crypto space who have put a lot of thought into how to value Bitcoin. For example, Chris Burniske believes that “A cryptoasset valuation is largely comprised of solving for M, where M = PQ / V. M is the size of the monetary base necessary to support a crypto-economy of size PQ, at velocity V.”  Meanwhile, Brett Wilson has put forth a token valuation model for a blockchain-based social network application. Aswath Damodaran, on the other hand, firmly believes that “you cannot value Bitcoin, you can only price it”. These are valuable contributions to the literature in the space, but the crypto community has yet to settle on a ‘market standard’ method of valuation (unlike the ‘traditional’ finance community, which commonly uses EBITDA multiples or DCF analysis).

In order to further explain how I see things, however, I’ve listed out the major pro and cons of bitcoin below.

Pros and cons of bitcoin

[+ denotes a pro; - denotes a con]

-: Scalability. Congestion on the bitcoin network is increasing as more transactions go through the network. Currently, bitcoin transactions happen at only 7 transactions per second. this has led to huge internal debates over the bitcoin blockchain governance (like bitcoin cash v. bitcoin). Furthermore, average transaction fees rose about 300% in 2017 Q3. Fees and speed are two major factors that disincentives the use of bitcoin.

-: Speculation. The popular sentiment among existing bitcoin holders (or “hodlers”) is akin to treating it as a confidence game, thereby diminished its use value. The original Bitcoin whitepaper’s title as “A Peer-to-Peer Electronic Cash System” is enough to suggest its purpose-- to be used as a payment method. Bitcoin should, at least for Satoshi Nakamoto, derive its value from use.  The “hodl” and never spent mentality combined with the speculation from the newcomers to the market means that Bitcoin loses any momentum that it needs to propel its use.

-: Regulatory concerns (U.S.): Though the CFTC has come out to be fairly bullish about cryptocurrency in the recent Senate hearing, there are still a number of other regulatory considerations around Bitcoin. Specifically, one of the major roadblocks ahead is in money transmitter laws (regulated at both the state and federal level). Another one would be in the tax arena, as the U.S. currently has not had clear guidance from the IRS regarding cryptocurrencies since 2014.

-: UX Considerations. In the short term, the bitcoin blockchain infrastructure cannot compete with centralized commercial platforms (ex. AWS, Salesforce, etc.) in terms of user experience, scale, speed, and cost.

+: The bitcoin blockchain infrastructure. The bitcoin blockchain is the longest chain and the most secure. Since its creation in 2009, it has not been hacked once since its creation in 2009. Ethereum, on the other hand, has suffered multiple hacks-- most notably, the Parity hack in November 2017 that resulted in more than 150$ million lost. In the long term, cryptoassets like Bitcoin is best used in a decentralized application for payments, and there is a great value case for that. But Bitcoin needs to overcome the many shortcomings that face the network. There are many people and startups in the space that are working to smooth out the rough edges, like the Algorand platform or the Lighting network with its payment channels.

Synthesis of the above

The cons as listed above are relatively short-term problems to the bitcoin blockchain. Public blockchains are difficult to scale right now, but that will become easier with time and with further developments. One other important trend to look to is the backlash that the bigger players in the tech space are facing-- for example, the increasing concern over privacy and the desire for personal data sovereignty.  With the recent coverage of the civil discourse debate inside the HQs of Facebook, Reddit, and the likes of other tech giants, it has become increasingly clear that no matter how neutral a platform may be seen, there is always someone behind the curtain. Furthermore, public distrust of the government remains in historic lows. It is not difficult to see how the increasing distrust of third-party institutions and intermediaries will affect consumer behavior, and how Bitcoin will capitalize on this in the long term.

4/13/2018 EDIT: I read in Ryan Selkis' latest newsletter the following, which I thought really lined up with my synthesis above: 

Everyone is so preoccupied with the next shiny objects that they’ve forgotten bitcoin:

+ survived a highly contentious fork in August and several Q4 spam attacks
+ beat back a coordinated effort to brute force a scaling compromise behind closed doors (Barry Silbert’s New York Agreement)
+ launched two major network upgrades with the launch of SegWit and Lightning
+ has attracted Samsung to the mining chip manufacturing game to compete with Bitmain
+ naturally seen some of its geopolitical concentration problems resolved via China’s expelsion of many miners to new jurisdictions
+ is in relatively steady developer hands in contrast to Bitcoin Cash, which seems to be imploding with its continued affiliation with Craig Wright, a living, breathing negative catalyst."

I remain firm on my "Bitcoin is long-term undervalued" position until proven otherwise. 

 

All opinions published on this blog are my own and do not reflect the opinions of any institutions that I am affiliated with in any capacity. None of this should be taken as financial or legal advice. If you are interested in investing in cryptocurrency, please do your own research thoroughly. 

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Katherine Wu