Playing with heartbeats and seeking hedges: the difference in logic between digital coins and gold

If digital coins are seen as a replacement asset for gold, then a dangerous misallocation of resources can occur.

The global new crown pneumonia epidemic has changed the spending mindset of many people. In the past, when there was free money on hand, people would always think about making a travel plan or changing their cell phones or something like that, but now more and more people are also starting to prepare for the occasional need. The profile of users with such demands can be summarized in one word: hedging risk.

Playing with heartbeats and seeking hedges: the difference in logic between digital coins and gold

The skyrocketing bitcoin market

To protect against the unexpected, investing your year-end bonus is an option, but what to invest is the question. While some may choose to buy a gold bar, others may look to digital cryptocurrencies such as Bitcoin, which is claimed to be “digital gold”. But is this really the case? The “digital” part of the digital coin label may be valid, but the “gold” part is not.

Since its inception in 2009, bitcoin has often been tied to gold, using the name “digital gold” to gain recognition. In fact, this is a common marketing strategy. However, what many people didn’t expect was that bitcoin is more “valuable” than gold, at least in terms of price alone. After all, on March 2, 2017, the price of a bitcoin exceeded the price of an ounce of gold for the first time, and more than three years later, the price of a bitcoin has topped out at more than 30 ounces of gold.

While the price of gold has recorded impressive double-digit gains over the past two years, that’s a fraction of Bitcoin’s increase. Tyler Winklevoss, founder of the Gemini cryptocurrency exchange and one of the twin brothers known as the first cryptocurrency billionaire, even says that the price of bitcoin could surpass the $500,000 mark. He believes bitcoin will trump gold. If that happens, Bitcoin’s market cap will exceed $9 trillion.

The $9 trillion pie was tempting enough that at one point it drew some money out of the gold space and into buying bitcoin. But this was not for risk aversion, but rather a high risk appetite choice. In fact as bitcoin fans, those investors can’t be faulted for being long their assets, but it’s a bit of an overstatement to think that bitcoin will outperform gold. Because the judgments made in 2017 when bitcoin first surged and then quickly fell clearly still hold true, gold is less volatile than bitcoin, has a more liquid market, and trades within a more mature regulatory framework.

Bitcoin advocates have repeatedly claimed that the biggest difference between this bull market and the one before is that Bitcoin’s role in the portfolio is much more familiar. Last time, it was retail investors who drove the price up; this time there’s more institutional involvement. But that’s a logical sophism, because as long as there’s enough profit to always draw the big guns down, it’s not enough to justify that this rally will be more stable – after all, the subprime mortgage crisis that dealt a major blow to financial markets more than a decade ago started with large financial institutions, with Lehman Brothers, Wall Street’s fourth-largest investment bank, becoming a sacrifice and Bear Stearns faltering. It is also worth noting that shortly after those institutions were “sacrificed” in the crisis, Bitcoin was born and the price of gold hit an all-time high.

The decade of companionship that followed saw Bitcoin grow beyond the estimates of optimists. At one point, Satoshi Nakamoto, the father of Bitcoin, confidently stated that Bitcoin’s goal was $4,000. And now Bitcoin’s wild ride has long exceeded the founder’s expectations, and in fact exceeded all rational control.

It’s not just the amount of money issued by central banks that has been wildly injected, it’s the virtual assets. The roller coaster ride of bitcoin over the past two months has been enough to satisfy all the demands of playing with a heartbeat. More than half of the $410 billion currently being spent on current bitcoin assets has occurred in the past year, with about more than a quarter of those dollars purchased at an average price of less than $36,000. This means that unless the price of bitcoin is at or above $36,000, the vast majority of investments are not profitable – and the price of bitcoin is likely to fall below that overnight.

People who took out $10,000 to buy bitcoin in the middle of last year currently have about $25,000 in their accounts. And the person who spent the same amount on gold bullion is now worth $11,000. This gap may seem large, and digital coins are even more enticing, though that enticement is dangerous and unstable. After the digital coin bubble ebbs, it will be interesting to see not only who is swimming naked, but also what kind of safe-haven assets are really holding up.

There are underlying logical differences between investments in digital coins and gold, and chasing short-term windfalls and seeking long-term hedges generally do not intersect. But under the compulsion of some institutions, something beyond common sense is happening. When institutions charge, should the big boys follow? At least in the third and fourth quarters of 2020 some people chose this strategy, and indeed there was money flowing out of gold ETFs to become part of the “coin army”. This, coupled with the fact that the price of gold has entered a period of correction from the highs to the lows, and the price of bitcoin has been hitting record highs, there has been a steady stream of noise that bitcoin is going to replace gold during this period.

So, is it time to give up on gold and move to buying bitcoin? Investors need to have their own clear judgment rather than an emotional one.

In reality bitcoin is more of a risky investment, or even a speculative vehicle. After several bubble bursts in 2013 and 2018, Bitcoin has certainly proven itself to be a somewhat more durable asset than many believed, but it still hasn’t been tested much compared to gold’s thousands of years of use. At a time when central banks, especially the Federal Reserve, are implementing the largest quantitative easing in history, it has become a trend for investors to look for alternative assets to fiat currencies. With the market’s trust in the U.S. government dwindling and a massive economic stimulus on the horizon, investors would be wise to look for assets that can preserve their value as a hedge against uncertainty, currency devaluation and inflation risk. This has allowed Bitcoin to take flight on this windfall, but few who are immersed in the total price frenzy are considering: what happens when the wind stops? Of course, many investors simply don’t understand bitcoin or worry about the possibility, thinking that one of the most common reasons they buy bitcoin is simply that someone else has bought it too.

For those savvy investors who become “others,” bitcoin’s volatility presents a headwind that prevents it from being used for trading. Bitcoin’s daily volatility indicator, based on the last 90 days of closing prices, is much higher than not only gold, but also assets such as the U.S. S&P 500 and the U.S. dollar. Bitcoin’s volatility is too high and its value too easily manipulated, which dooms it from being a true safe-haven asset. Of course, many speculators are attracted to investing in bitcoin precisely because of the volatility, which leaves bitcoin’s high price built on a beach.

By contrast no one doubts that the price of gold will fall to zero because gold has its physical properties to back up its price, which makes it valuable as something other than a safe-haven asset. But digital coins have limited intrinsic value, relying on the nebulous beliefs of their holders and a basic supply of electricity. As central banks continue to develop digital currencies and digital payment systems will become mainstream, keeping an open mind about the future of the technology does not mean that Bitcoin will always dominate: it is only the first, and not necessarily the best one.

For investors with a higher risk appetite, there is nothing wrong with making a buck from the digital coin fad. But in general this segment of investors does not intersect with gold, which, as a defensive asset, brings a protective effect rather than high returns. Converting some highly volatile assets into bitcoin is consistent with the usual logic, but if digital coins are seen as a replacement asset for gold, then a dangerous mismatch of resources is created.

Posted by:CoinYuppie,Reprinted with attribution to:
Coinyuppie is an open information publishing platform, all information provided is not related to the views and positions of coinyuppie, and does not constitute any investment and financial advice. Users are expected to carefully screen and prevent risks.

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