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Bitcoin became the world’s first cryptocurrency in early 2009, and since then over 4,000 new cryptocurrencies have been created. Bitcoin remains the largest and most well-known and the returns have been very strong, however with extraordinarily high volatility.
Apart from being completely virtual, Bitcoin and its digital counterparts are different from other forms of currency. Blockchain technology underpins cryptocurrencies, there are also no physical coins or notes, and also no or government issuer. Some investors consider these features to mean that Bitcoin is not susceptible to government intervention, a defining feature of recent Australian dollar movements.
Bitcoin and its investors have been on a wild ride, and the cryptocurrency price has climbed from US$1,000 in early 2017 to $57,500 in April 2021. However significant volatility has seen prices as low as $4,000 and in 2020 coronavirus fears led to a 40% fall. The Bitcoin price rollercoaster continues, partly encouraged by the acceptance of Bitcoin amongst some payment providers (such as PayPal) as well as Tesla’s recent announcement they would no longer accept Bitcoin as a means of payment.
Originally, most owners of Bitcoin had large amounts of the cryptocurrency. However, as demand has increased, the number of digital wallets has also increased. As a result, the number of coins per wallet has dropped. Currently, each wallet holds on average 0.3 Bitcoin. Equally, it is true that the largest 1,000 wallets own 13% of all Bitcoin and there have been concerns that some larger market participants can move prices within the cryptocurrency markets.
Taking a 5-year lookback from early 2016 Bitcoin has returned an eye-watering 168% p.a. in US dollar terms which is of course impressive, but it has come with an average annualised volatility of close to 80% p.a. Such volatility is a massive outlier against the asset classes held by superannuation funds, in contrast smartMonday estimates the future volatility of Australia shares to be around 17% p.a.
Increasingly, environmental factors are taken into consideration by super funds, including smartMonday. The use of sophisticated computers to solve complex maths problems as part of the blockchain technology means that there are significant amounts of energy used in mining and verifying transactions with cryptocurrencies. Current energy expenditure on Bitcoin alone is greater than that of some medium-sized economies (e.g. Argentina). The energy costs associated with Bitcoin are also set to increase over time as the work required to mine new Bitcoin rises. Bitcoin has high average energy consumption per transaction relative to the cost of other payment systems such as the VISA network.
Although many cryptocurrency enthusiasts will point to the growing use of renewables in the mining process, a significant concentration of cryptocurrency mining resources use coal for electricity generation.
We see an instructive parallel between the dotcom boom (and bust) of the early 2000s and behaviour of cryptocurrencies today. History reminds us that the new tech arising from the invention of the internet was greeted with great enthusiasm and investor interest. Tech company share prices rose aggressively as a result. Whilst many of these subsequently failed, and the share markets fell heavily, a select few are now household names and very valuable indeed. The challenge with selecting cryptocurrencies as long-term investments is identifying which ones will be around for the long-term.
At present, smartMonday does not hold any cryptocurrencies. Our views towards all asset classes are reviewed regularly, and a fundamental change in the use of cryptocurrencies could lead to its inclusion.
We believe extreme volatility is the key barrier to wider adoption – very high risk/high return potential securities are unlikely to occupy a key place in institutional portfolios. Additionally, significant risks facing the cryptocurrency market is central bank or government intervention, and its poor ESG footprint should be seen as a negative for environmentally minded investors. These are formidable obstacles to widespread cryptocurrency adoption, although the underlying blockchain technology has real life uses which offer value.
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