Another day, another record. At the time of writing, bitcoin’s price has reached a new all-time high of $7,350. Surpassing all expectations, the price has been building on successive highs for the past couple of days. Bitcoin’s market capitalization is now at, well, $118bn, which is $4bn less than what it was supposed to be at the price just mentioned. That is because before this introductory paragraph was even finished, the unit price decreased by $280. It is no secret that this is a volatile, yet valuable and viable, game.
Explaining Its Success
Bitcoin’s march to unprecedented heights can be explained by two major factors. One is rampantly growing interest from both the institutional and retail investment space. Increasingly recognizing the opportunity for asymmetric trades, i.e. the possibility of making massive gains with relatively small investments, individual investors are flocking to the poster child of the cryptocurrency world. Moreover, the Chicago Mercantile Exchange – the world’s largest and most diverse options and futures exchange – announced on Tuesday that it plans on introducing bitcoin futures in the next couple of weeks. For those not familiar with the term, futures contracts are basically financial instruments that allow speculators to place a bet on the future price of a commodity. They have been around for hundreds of years. If someone wants to take a bet on, say, what the price of gold is going to be half a year from now, he or she can buy a futures contract. One can even buy options on a futures contract. Options give the buyer the right (with no obligation) to buy or sell a contract at a specified price, essentially locking in the price, so that no matter what happens in the near future he or she can buy or sell the contract at a price previously deemed beneficial. Airlines, for instance, do this with oil and jet fuel contracts so that they can hedge their exposure to fluctuations in the price of oil. Consequently, futures play an important role among not only speculators but producers and users of commodities as well. Bitcoin miners, for example, could lock in an agreeable price for their bitcoin in the same way.
Currently pending regulatory review, once the U.S. Commodity Futures Trading Commission approves and regulates bitcoin derivatives, a great deal of liquidity and legitimacy will be brought to the cryptocurrency’s ecosystem. Thus, institutional investors will soon be able to speculate on its price in the futures market, which will cement the digital currency’s reputation as an established asset class.
At the moment, the amount of institutional money in bitcoin is very small because there are few vehicles that allow professional speculators to invest safely. Hence, a functioning bitcoin derivatives market would be a major step in opening the asset to institutional investors. It would allow them to access the incredible volatility inherent in bitcoin without having to trade on unconventional platforms where there may risk not complying with anti-money laundering and KYC (Know Your Customer) regulation. According to CNBC, there are currently over 120 hedge funds focused solely on bitcoin and other cryptocurrencies. Altogether these funds have an estimated $2.3bn in total assets under management.
This number is extremely small when compared to the $3.15trn held by the hedge fund industry, as reported by Hedge Fund Research Inc., the industry’s go-to provider of hedge fund index information. With more formal and traditional financial instruments entering the scene, a channel is created for the really big money players to enter the bitcoin marketplace.
This is not the first time favourable regulation has caused an uptick in bitcoin’s price. The price of crypto’s poster child was also boosted when Japanese authorities officially recognized bitcoin as a legal method of payment earlier this year. Businesses were quick to sign on and take advantage of the many benefits a digital transnational form of payment can provide. The Nikkei Asian Review reported that the number of stores adopting bitcoin in Japan is expected to rise to around 300,000 in 2017.
The second major factor pushing the price of bitcoin to new heights is the upcoming bitcoin fork known as Segwit 2x. A fork is basically a proposed upgrade to the bitcoin network carried forward by a faction of the bitcoin community. As there is no central authority with bitcoin, whenever there is disagreement among developers and participants about bitcoin’s fundamentals or technological limitations, there is the possibility to split off and create a new coin by altering the source code. In the software industry forks are quite commonplace. Ubuntu, a popular operating system for computers, IoT devices and servers, could be considered a fork of the Linux operating system. Since its inception, Linux has forked dozens of times. According to Linus Torvalds, the creator of Linux, forks are actually good things. When somebody sees a need and a technical reason to do something different, they go out and do it, creating a new choice in the process. Thus, forks are crucial for any idea to evolve freely. The result is that the concepts, source code and technological architecture behind bitcoin will only get better and more options will become available, allowing users to pick and choose according to their personal needs and preferences.
When it comes to bitcoin, Segwit 2x is definitely not the first nor the last fork. Bitcoin forked during the summer when the network safely split in two, creating a new digital asset known as Bitcoin Cash (BCH). Everyone holding bitcoin at the time of the fork was given – one for one – an equal amount of the new cryptocurrency. At one point Bitcoin Cash was worth over $900. Currently, it trades at $653. A more recent fork has been Bitcoin Gold, which is set to begin trading in December. Essentially, these forks are expected to act as a sort of dividend for everyone holding bitcoin, providing them with extra value in the form of a new asset. Although there is still a lot of uncertainty involved with a fork, investors seem to expect the same results as with Bitcoin Cash this time around. They believe they will get valuable tokens for free, which explains why they are currently buying en masse. Historically, this has been true. Every time there has been a hard fork it resulted in the creation of two competing assets, with the new asset being airdropped to the holder of the original for free (c.f. Ethereum and Ethereum Classic). Thus just by holding bitcoin at the time of the fork, investors hope to diversify and add value to their portfolios. Whether this will be true this time as well remains to be seen.
Other smaller factors possibly impacting the price of bitcoin may be the fact that it has now been just over nine years since the 31st of October 2008, the day on which a link to a paper authored by Satoshi Nakamoto titled Bitcoin: A Peer-to-Peer Electronic Cash System was posted to a cryptography mailing list. In addition, whenever there have been cryptocurrency developer summits, such as the Ethereum Developer Conference known as Devcon3 currently taking place in Cancún, Mexico, prices have been positively affected.
Finally, increased attention from the traditional media is creating a kind of snowball effect where a rise in bitcoin’s price creates a virtuous cycle of more headlines, creating more exposure and increasing demand for bitcoin, which in turn increases the price yet again, leading to more headlines and so on and so forth. One should note that at the start of this year, bitcoin’s total market capitalization was around $15bn.
Today, in less than a year, it is over $100bn more than what it was on the 1st of January. Right now, the entire cryptocurrency market, including the universe of altcoins, is worth $197bn. Although this may seem like a big number, it is quite small relative to traditional assets. When compared to the global stock market, which is worth $69trn, the number is minuscule. The entire gold market is worth just under $8trn. With all the dramatic growth that is constantly being talked about, the size of the cryptocurrency market still only represents a mere 0.1% of the value of all currencies. Thus, saying that there is enormous room for growth in the cryptocurrency space would be an understatement. Although bitcoin has been around for almost ten years now, it is clear that this is only the beginning.