Bitcoin is back above $7000 as I write this after an enormous bout of volatility surrounding the failure to implement a protocol upgrade known as “Segwit 2x.” Segwit 2x was designed to improve Bitcoin’s functioning in real world applications. There was a classic pump and dump over the next 48 hours that saw Bitcoin spike to nearly $8000 and then collapse to $5500. But, as things have shaken out, we’re seeing that those who predicted Bitcoin’s death spiral because of a lack of ‘scaling’ solution, were wrong. from a couple of weeks ago, I talked about the ‘thinness’ of Bitcoin’s initial move above $5000. But, now it’s different. Coins like Monero {XMR}, DASH and Zcash {ZEC} are at or near all-time highs. Litecoin has moved up from a low near $50 to $63 dollars. Bitcoin Cash {BCH} has quadrupled as the main beneficiary of the Segwit 2x chaos. In my last article on Seeking Alpha On the other hand, the have been a mixed bag. These are the cryptos that issue tokens based on smart-contract platforms that are not necessarily mined into existence. Platform Assets Ethereum found support near $280 and is trading in the $320’s, still 20% off it’s all-time high. EOS, however, exploded off of a base near $0.51 and continues to rally towards $2.00. NEO is still base-building between $25 and $30. STEEM has collapsed below $0.90. Segmentation and Maturation What this means is that the market is segmenting. No longer is money rushing willy-nilly into everything just because Bitcoin put on a 10% up move. We’re beginning to see maturation and the beginnings of price discrimination enter into the crypto-space. This has been happening for the past couple of months, much to the consternation of some looking to get rich too quickly. The market is looking to define where the best place to park capital is. And, in my mind, the first thing that has to be determined is how much of that capital needs to be placed into reserve assets versus circulating cash. And I define those two things as different market segments. post that goes into some detail on this and why the push for transaction density for Bitcoin is not all that desirable. I discussed this in an eariler blog This is not to say that I’m not a fan of Segwit. I am. But, am I a fan of Segwit on Bitcoin? I don’t know. In the world of cryptocurrencies I want a reserve asset that sits at the bottom of that can be 1) incorruptible and 2) a standard against which all other monetary-like assets, including utility tokens like Ethereum, can be measured. Exter’s Monetary Pyramid In short, I want to see a true analogue to gold to emerge. And Bitcoin has those qualities. Compared to its competition like Litecoin or Bitcoin Cash, Bitcoin is slow, expensive and, at times, annoying to use. For simply moving money around there are at least half a dozen solutions out there that are better than Bitcoin as a medium of exchange. Just like there are at least half a dozen central-bank issued currencies that are far superior than gold is. But, that’s the point. And for the crypto-space to mature into a functional market it needs one or two assets to become the foundational asset on which the crypto-monetary system can be built. The Colors of Money Money has three important properties. They are: Medium of Exchange Unit of Account Store of Wealth Gold still functions beautifully as the last two. You can use it to compare the value of assets (Unit of Account) and keep your books in it. As well it holds its value versus fiat currencies to give you an accurate assessment of your wealth through time (Store of Wealth). It is, however, a miserable thing to transact in the moment (Medium of Exchange). Bitcoin is rapidly beginning to look like gold in usage cases. But, more importantly, Bitcoin looks like gold because it has the oldest and most secure blockchain backing it. In this analogy the age of Bitcoin’s blockchain is similar to the thousands of years of recorded history where gold functioned not only as a store of wealth but also a real medium of exchange. I published this version of Exter’s Pyramid in the article linked to above. It’s a starting point for discussion on this subject. Adding Transaction Density to Bitcoin Removes its Uniqueness To build a functional monetary system a new version of John Exter’s pyramid will have to be built. And, if you look at the crypto-space that is exactly what is happening. Litecoin was originally built to be a slightly better Bitcoin. But, it couldn’t compete. As Bitcoin made new highs and Litecoin languished, Litecoin’s developers pushed for short settlement times with an off-chain payment layer, in this case the Lightning Network. Now, Litecoin is relatively cheap to use and payment confirmation is quick. But it also now serves only one purpose, a medium of exchange, because it did sacrifice something to gain this functionality. Other ‘alt-coins’ have stressed privacy (Monero, Zcash) or integrating fiat gateways and the like to add to their USP — Unique Selling Proposition — in order to gain market share And this is why I say that those who pushed higher transaction density and lower transaction fees are missing the point of what Bitcoin should be. It doesn’t need to be the biggest cryptocurrency with the most users. It needs to be the best, most secure blockchain with a huge amount of hashing power powering it’s security with the most history. It needs to be this so that it can be the best interface as a versus the currencies of the real world, most importantly, the U.S. dollar or the Euro . unit of account Without those attributes, there will be a limit as to how much capital will migrate away from the current security and comfort of today’s government-issued currency system. Where Losing is Winning Now that the dust has settled on the failed push to redefine Bitcoin’s future, investors need to be aware of a number of things concerning Bitcoin and its newly-fragmented market. First, Bitcoin in the long run will likely lose market share as a percentage of the total crypto-asset market cap. As the real world and the crypto-world build more links between each other, the more attributes like short transaction time and low fees will dominate people’s daily behavior. All of the ‘Alt-Coins’ I’ve labeled above have bright futures in terms of market-cap percentage, where today they haven’t increased market-share at all. This is a good thing. It will allow for a bigger crypto-pyramid overall. Despite the Recent Bounce Bitcoin Will Continue To Lose Market Share Second, money will flow more freely into the crypto-space via Bitcoin before dispersing into various alt-coins and utility tokens as more people get on board. Why? Because the uncertainty of Bitcoin’s future is in the past. Uncertainty retards investment. Now that Bitcoin has defined itself as the crypto-world’s reserve asset, capital can be deployed in a much more rational manner. Third, because of these things, Bitcoin may lose market share but gain market cap because this evolution will continue to attract capital. Over time the market will decide how much a true free-market economy should hold as its reserves a pool of real savings versus at-risk liquid capital. We don’t have this now in the ‘real world’ because we don’t have a free market in money. Central banks distort risk assessment through the manipulation of interest rates, i.e. the cost of money. They do this to minimize the amount of savings to promote money velocity versus wealth creation. Fourth, a lot of projects will fail. When making decisions into the space, use the pyramid above to figure out where the project you’re looking at fits. The higher up the pyramid the more likely it will fail as the project may be misaligned with the market’s priorities. What the Crypto-Monetary System Looks Like Today. So, in the end, what I’m saying is that right now the crypto-space is the opposite of Exter’s pyramid. Most of the wealth is stored in Bitcoin, the reserve asset. And very little, if any, of it is bound up in top-level derivative assets like options, futures, and the like. Earlier in the year this pyramid would have been mostly black. This is what I mean by the market segmenting and the maturing. It’s just beginning to see the potential for its own growth as a completely different type of monetary system. I believe that’s what the Bitcoin Core group was fighting against in their opposition to Segwit 2x. Whether they saw it in these terms I don’t know. But, as an Austrian economist I am going to be fascinated to watch how a digital version of the new economy evolves in an environment where property rights and consumer sovereignty are maintained versus being sacrificed on the altar of liquidity. Bitcoin will implement larger block sizes in the future. But it will do so at a much slower rate than many think it should. For now, Bitcoin looks like it has survived its initial hostile takeover attempt, in my opinion, and the unintended effect is it just may have kicked off the next wave in its own bull market. For more commentary like this, trade ideas and a model investment portfolio please join my Patreon where you can get all of that for just $12/month.
