Etherbridge Bets on the Future of Money
Money is not a static concept but rather an actively changing social construct. Technology, combined with the formation of a global community, has brought us to a point where we are offered the chance to reassess our perception of money. The current fiat regime is a topic that has been explored by some of the most unyielding financial experts the school of economics has recently produced.
“It’s remarkable what’s happened in the last 10 years. I’ve been wrong in thinking that you could really have the developments you’ve had without inflation taking hold.”
- Warren Buffet.
As a unit of account, any complexities regarding the trustworthiness of money offer an opportunity to shake the foundations of the investment industry, a community that has long depended on the stability of central banks. Many theories delve into the trajectory that current global monetary policy is placing us on. All of these theories, however, revolve around the core concept of monetary debasement.
What is monetary debasement?
Historically, monetary debasement has usually been the practice of adding inferior metals to gold and silver coins. This process allows heads of state to increase the number of available coins in circulation. We witnessed this during the fall of the Roman Empire which produced inflation of around 1000% year on year.
In our current fiat monetary regime, it is even easier to debase the value of money, all we have to do is print more. This process has been made even easier through technology; central banks across the world now have the ability to increase the money supply with the stroke of a keyboard. We have seen examples of this throughout history, such as during Germany’s crisis in the 1920s and more recent examples like Zimbabwe and Venezuela.
Since the COVID-19 took hold of the world earlier this year we have seen $7 trillion printed and injected into financial markets by the central banks. What was once an unconventional approach in quantitative easing has now become a go-to tool. The effects of COVID-19 will be felt for months to come and will most likely be met with more quantitative easing and potentially even direct stimulus into the hands of the consumer. COVID-19 has greatly accelerated the speed at which we expect fiat currencies to lose value.
How do we as investors protect ourselves from monetary debasement?
As we enter periods of economic and political uncertainty, and the position of the world’s reserve currency is called into question, there lies opportunity. Historically the best way to navigate these periods has been by investing in and holding gold. Gold, after all, accompanied by its 5000-year track record, has been the most constant or successful form of money the world has ever possessed.
Gold, over thousands of years, has proved to be our default safe-haven asset and for good reasons. It is a great store of value and has historically played a significant part as a hedge against monetary debasement. Yet, there now exists a new asset that trounces gold on almost all the characteristics that make it special, this asset is Bitcoin.
Gold and bitcoin are both special because they are incredibly difficult and expensive to debase. In the same way that nature and production limitations constrain the supply of gold and requires us to expend capital in order to increase circulating supply, computer science and proof-of-work consensus mechanisms perform a similar role for Bitcoin.
At Etherbridge we see gold as a spot play on this outcome of monetary debasement and bitcoin as the intangible younger brother. In fact, bitcoin is more portable and divisible than gold. Exposure to gold whether it be tokenised, physical or a derivative requires high levels of trust in third parties. Bitcoin requires no trusted intermediaries and it protects our individual freedoms far better than gold as it is almost impossible to censor and difficult to seize.
However, the most important characteristic of Bitcoin and why we at Etherbridge believe it is primed for an enormous rally is due to its political neutrality. Bitcoin is not under the control of any single individual, corporation, or nation-state. Bitcoin is a form of value that even the greatest of enemies can come to an agreement on.
Money is political, therefore the way we configure it becomes incredibly important as it determines the winners and losers of society. This is the very reason we expect Bitcoin will stand tall; it cannot be used by one group to disadvantage another.
What backs Bitcoin though? “Bitcoin is currently backed by the demand for an apolitical speculative store of value that may or may not become one of the world’s most valuable safe haven assets.”
In this game of financial ‘chicken’, we as investors need to accumulate insurance against the highly probable outcome of rapid monetary debasement. This insurance will become more valuable as the risks of unconstrained fiat monetary expansion become more apparent to the everyday investor.
Bitcoin currently has a strong tailwind of qualitative factors that set it up perfectly for another bull market, however what about some of its quantitative factors? To understand the cycles experienced by bitcoin we need to analyse quantitative data around bitcoins core stakeholders being miners, investors, and users. So, where are we currently in the cycle?
The most favourable time to accumulate bitcoin is when inefficient miners have capitulated, and the stronger more efficient miners are becoming more profitable, when smart money is confident, and when usage is increasing. Below each of these stakeholders will be covered individually to assess where they are in bitcoins current market cycle.
To understand miners, we apply the Puell Multiple developed by David Puell. The Puell multiple gives us an insight into miner profitability and maps current rewards earned vs a trailing 100 day moving average of rewards earned. Miners are an integral part of the bitcoin market cycle as they are the greatest source of net selling pressure in the bitcoin ecosystem.
Some truths before we dive into what the Puell multiple is telling us. Firstly, mining is a competition over a fixed reward of bitcoin in any given year. Secondly, miners operate as profit maximising enterprises with economies of scale. Lastly, miners’ profits are denominated in a bitcoin whilst their expenditure is denominated in fiat. Mining, in the long run, does operate at equilibrium (market price = miners’ marginal cost) which is achieved through the combination of hash rate and difficulty adjustments. Difficulty adjustments are delayed and lag miner profitability meaning miners can enter long periods of profitability.
The last point being the most important because it means that as miners become more profitable, they have a pro-cyclical impact on bitcoin’s price. Remember, they are the biggest selling pressure in Bitcoin’s ecosystem, so as they become more profitable they have to sell less bitcoin to cover their fiat expenditure.
Currently, miner profitability is building and its impact on bitcoins price will be positive. Every time we have seen a state of change in miner profits (from unprofitable to profitable and vice versa) it has signalled large directional changes in price.
As bitcoin is still a speculative store of value on its journey to becoming money, assessing the position of investors is integral to understanding where we are in the current market cycle. Bitcoin is a purchasing power preserver; investors buy it because they believe its scarcity and technological advantages make it the best store of value the world has ever seen.
So, are investors accumulating more bitcoin? Due to the transparent nature of Bitcoins distributed ledger we can actually tell when each and every coin last moved. This allows us to peer into and understand the savings behaviour of every individual investor.
The above metric is called HODL waves and its purpose is to separate bitcoins supply by the age of the coin since it was last moved. Currently, more than 60% of bitcoins supply hasn’t moved in over a year, more than 20% of bitcoins supply hasn’t moved in over 5 years. These HODL waves indicate healthy savings behaviour and illustrate the fact that investors are continuing to save their bitcoin.
Since the beginning of 2019, the Bitcoin network has almost doubled its number of active addresses from 550 thousand to just shy of 1 million by August 2020. The users are coming and finding utility in the public payment system that is Bitcoin.
The confluence of growing usage, rising miner profitability and strong savings behaviour of investors are lining up bitcoin for another bull market. Together with improving fundamentals and rising demand for an apolitical form of money it is time for investors to get off zero and invest in the future of money.
This is not financial advice. All opinions expressed here are our own. We encourage investors to do their own research before making any investments.