Ask Sygnum Anything: Are recent price increases driven by speculation?
The pace of market development and innovation in the digital asset space has never been so rapid. In this new series of posts called "Ask Sygnum Anything", we field questions asked by our clients and followers on a diverse range of topics.
As a trusted partner in this exciting and fast developing digital asset space, send us your questions via email on AMA@sygnum.com.
Today's client view is:
I generally have a positive outlook on digital assets, but I’m concerned about recent significant price increases. Is this purely driven by speculation?
Bitcoin’s price increased from around USD 10,000 in October 2020 to more than USD 50,000 in February 2021. It is human to compare current prices with historic prices and assume if you could buy something cheaper yesterday then it is “expensive” today. However, from a rational perspective this is not the right valuation approach.
Take the example of Amazon – in 1997 you could buy an Amazon share for USD 18 during its IPO. In 2015 you had to pay a bit more than USD 300, which is roughly 20 times the IPO price, so it was “expensive” compared to the IPO price. Today Amazon shares are trading above USD 3000 which is 10 times the price 5 years ago.
This example shows that considering something expensive simply because it has increased in price is a bit short sighted. With a total valuation of USD 1 trillion, Bitcoin’s market capitalisation is only a fraction of the market capitalisation of gold (USD 11 trillion) or the global equities and debt markets (USD 200 trillion).
At Sygnum, we look at Bitcoin’s valuation from a fundamental perspective. What is its intrinsic value, and what are the economics from a demand and supply perspective?
Driver 1: Increasing institutional demand
A key driver for Bitcoin’s recent price increase is increasing institutional adoption. MicroStrategy, a Nasdaq-listed company, has invested approximately USD 2 billion for 90,000 BTC, which is ~0.5 percent of the current Bitcoin supply. Tesla recently put 10 percent of its cash reserves in Bitcoin, buying 43,053 BTC for USD 1.5 billion in January. Institutional players buying Bitcoin as a hedge against inflation is a game-changer for digital assets - one unimaginable two or three years ago. The current price only partially reflects that this is a start of a trend. We expect more companies to follow as treasury departments without Bitcoin exposure lose purchasing power relative to the ones who have an allocation. This is due to the significant inflation of USD cash positions - around 25 percent of the USD supply was “printed” in 2020.
How much buying pressure could this generate? The five largest US technology companies (Apple, Microsoft, Alphabet, Amazon and Facebook) hold more than USD 588 billion in cash collectively. 10 percent of this would lead to buy orders amounting to ~USD 60 billion.
What about other institutional players? The largest institutional investors globally are pension funds, insurance companies, sovereign wealth funds and family offices. These institutional investors currently have a low or very low exposure to cryptocurrencies. We expect them to start investing in cryptocurrencies over the next few years which will also contribute significant buying pressure. A conservative 2 percent allocation in cryptocurrencies across these institutional investors will be worth USD 2 trillion – more than double Bitcoin’s total valuation today.
Driver 2: Retail demand potential
Today there are approximately 1.3 billion people living in developed countries, comprising about 17 percent of the world’s population. How many of them will at some point want to include Bitcoin in their portfolio? Most likely a significant number, but Bitcoin is limited to 21 million units.
If you hold 21 BTC (approximately equivalent to USD 1 million) today – you know that not more than a million people will ever be able to hold more Bitcoin than you do. Many are acquiring a Bitcoin for each of their children, possibly one of the best future-proof investments they could make.
Driver 3: Limited supply:
18.6 million BTC have already been mined today - roughly 88.5 percent of the total supply. However, the liquid supply is significantly lower – it is estimated that around 3 million BTC have been lost forever, bringing the total available supply to around 15 million BTC.
Further, we see that many buyers buy Bitcoin not for speculation, but to hold long term as a hedge against inflation. Thanks to the transparent nature of blockchain technology, we can quantitatively track the liquidity. A recent study from Glassnode[1] concluded that only roughly 4.2 million BTC (equivalent to USD 200 billion) are actually liquid. And with the 2020 halving, the number of BTC mined per day has decreased to approximately 900 BTC (equivalent to ~USD 40 million).
Our final thoughts:
Bitcoin’s price has significantly increased over the last years, but when you look at the bigger picture, it is still at a very low valuation compared to other asset classes.
The potential demand from institutional and retail investors combined cannot be absorbed by the new Bitcoin being mined – it would require 1,500 days just to meet the potential demand from the five US technology companies. The only possibility will be to purchase Bitcoin from existing holders - and given the comparatively low amount of liquid Bitcoin in the market, this may well lead to a continued appreciation in prices.
[1] https://insights.glassnode.com/bitcoin-liquid-supply/
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