Markets & Economy

For a moment, it seemed like bitcoin was on every investor’s mind. The cryptocurrency rose more than 13x in 2017. It catapulted into public consciousness, but has since dropped precipitously.

Even with a jump in early April, bitcoin is still trading at around $5,000 – down ~75% from a peak of about $19,800 in December 2017.

The excitement around bitcoin and its subsequent fall brings to mind other “hot” investments gone awry. While it is too early to write off bitcoin, we have to consider the lessons history has to offer.

The new millennium starts with a bang – and a burst

The rise of the Internet dazzled consumers, and investors tripped over themselves to find the next big thing. Suddenly, any stock with “dot com” after the name was hot. Stocks would IPO, and then double or triple within a day. The stock market surged with the NASDAQ index rising over 500% from 1995 and 2000.

As we now know, those heady days were too good to be true. Many of the new dot com companies had faulty business models and bloated valuations, leading to closures and sinking stocks. Within a few weeks of its peak on March 10th, 2000, the market was down 10% and the bubble started to burst. A global recession soon followed.

There’s no such thing as a safe investment

After the dot com bust, confidence in stocks was low. A “safe” investment like real estate seemed much more attractive, and conventional wisdom was that home prices would rarely, if ever, go down.

By the mid-2000s housing prices soared, especially in certain regions. From 2004 - 2005 alone, US home prices rose 12.5%, and in places like California, Nevada, and Washington DC, they jumped a staggering 20%.

Rampant speculation ensued, and the combination of loose credit standards and low interest rates encouraged anyone to borrow and buy a home. Unfortunately, this version of the American Dream turned out to be a myth.

Home prices began falling in 2006, challenging the long-held belief that homes do not lose value. Along with the help of far too much leverage, the global financial crisis began to unfold.

The crypto winter drags on

Is bitcoin destined to cement its status as yet another cautionary tale? On the one hand, the cryptocurrency is inherently volatile. It has suffered major selloffs in the past (nearly 93% in 2011 and 84% in 2014) and gone on to rally. On the other hand, the space is much larger today than it was during those previous declines. It takes more activity to move the needle.

Some online retailers, including Overstock and Shopify, already accept bitcoin and other cryptocurrencies as a form of payment. Fidelity also established a trading platform for cryptocurrencies in late 2018.

Still, there are significant obstacles holding back wider acceptance. High transfer fees, slow transaction processing, and the ease of use in illicit activities are just a few of the challenges facing bitcoin.

It’s also become increasingly expensive to be a cryptocurrency “miner.” This has concentrated the governance of a supposedly decentralized space, and created some serious power struggles. On multiple occasions bitcoin and ethereum influencers have disagreed so fiercely that they split the currency.

This can be confusing and unnerving for investors, who run the risk of waking up to find that they now own two distinct cryptocurrencies instead of one.

To invest or not to invest?

Like the dot com stocks and home mortgages, bitcoin and its underlying technology, blockchain, have real-world use cases. Beyond being a replacement for cash, blockchain is useful for anything where you might want a decentralized, secure, verifiable system of record.

For example, Walmart is using the blockchain to track their food at various points in the supply chain. They say it has reduced the time spent tracing the source of contaminated food from seven days to 2.2 seconds.

We believe that the business case for benefitting from blockchain technology might not be from owning blockchain assets (bitcoin, ethereum, etc.), but from selling services and products using bitcoin as another input. It’s not unlike the beneficiaries of the Internet – i.e., companies like Amazon, not the people who created the Internet Protocol.

As history demonstrates, there can be significant risk when investing in something new and potentially misunderstood. Throughout our firm’s 45+ year history, we have seen many hot investments come and go. Regardless of bitcoin’s ultimate fate, we will continue to monitor the space to identify investment implications.

The data presented is for informational purposes only. It is not considered to be a specific stock recommendation. The NASDAQ Composite Index is a broad-based capitalization-weighted index of domestic and international based common type stocks listed in all three NASDAQ tiers: Global Select, Global Market and Capital Market. The NASDAQ Composite includes over 3,000 companies. The Index returns do not reflect any fees or expenses.