The Greater Fool Is the One Not Holding Bitcoin

Recently, I commented on Twitter on a wonderful visual shared by Andy Flattery. I found HERE, “My question to the non-coiner advisors out there – if you truly a long-term saver/investor, how do you justify a 0% allocation?”

The reply I got was a link to a Wikipedia post on The Greater Fool Theory. For those that need a quick refresher on the theory – it is a belief that asserts an investor can profit from buying overvalued assets with the expectation that they can sell them at an even higher price to a “greater fool” in the future. In essence, this theory suggests that it’s possible to make money by purchasing an asset at an inflated price, counting on the hope that someone else will be willing to pay an even higher price for it later.

This concept is particularly prevalent in markets driven by speculative bubbles, where asset prices are driven up by irrational exuberance rather than fundamental value. Investors who adhere to the Greater Fool Theory assume that even though they are buying at a high price, they will find another investor (the greater fool) willing to buy from them at an even higher price before the bubble bursts.

An ill-informed person might examine bitcoin and conclude that all they see is volatility, limited history, wasteful energy consumption, lack of intrinsic value, and regulatory concerns. There are other pushbacks, but the above are the main ones I’ve seen and heard. 

The well-informed examines all of the above and says…

Volatility is measured in two ways by most financial professionals, these are Sharpe and Sortino Ratios. Each factor in risk-adjusted performance to evaluate the returns of an investment relative to its risk. However, they differ in how they measure risk and their focus on downside volatility. The Sharpe Ratio helps investors assess whether the excess return of an investment (above the risk-free rate) justifies the level of risk taken to achieve that return. A higher Sharpe Ratio indicates a better risk-adjusted return, as it shows that the investment has generated more return per unit of risk. The Sortino Ratio is particularly useful for evaluating investments where minimizing downside risk is a priority. It focuses on the volatility of negative returns, helping investors assess how well an investment protects against losses. I’ve yet to meet an investor upset with upside volatility – so how does bitcoin stack up?

From 1/1/2015 to 7/1/2023 – the Sharpe and Sortino numbers alone point to bitcoin being the best asset to own. Often this is where the phrase “run the numbers” is inserted.

Bubbles come and go – history matters! Financial advisors mention, “We have decades of return data on stocks and bonds…why do we need anything else?” My first question is, with the rapidly changing technological landscape – how valuable is that data you have on bonds from the 80s or 90s? What about stocks from the 60s? It’s an entirely different system today than in the past. High-frequency trading, monetary policy, and overall technological changes make massive differences. Also, when measured in trading hours, bitcoin has traded more hours than the S&P 500 as of the close of 2022. Bitcoin hit 110,224 hours, while the S&P 500 was at 107,217 hours. Bitcoin might feel new, but the beauty of the asset is that it’s ossified, and the core merits and rules have been unchanged since 2009. The Blocksize Wars of 2015-2017 helped demonstrate that individuals can count on bitcoin’s rule set.  

Bitcoin is bad for the environment. There are claims that bitcoin uses more energy than countries, and while true – this concept misses the entire point. First, who decides what is a good use of energy and what’s not? Second, a conservative figure is that somewhere between 5% and 10% of all energy produced gets consumed. The factors include the distance of transmission, the voltage levels used, the type of transmission lines, and the overall efficiency of the electricity grid. Bitcoin consumes energy and will increase this into the future, yet today the estimated to be about 0.1% – 0.2% of the current energy output, so significantly less than what is currently produced and lost. It’s a buyer of first and last resort – helping to stabilize grid infrastructure. It uses a lot of waste energy (see flare gas mining and landfill methane gas) and needs to provide the service of facilitating network transactions via proof of work. In comparison, there are entire podcasts, articles, and even books on the topic. I’ll point the reader to the best overview HERE by Lyn Alden titled, “Bitcoin’s Energy Usage Isn’t a Problem. Here’s Why.”

What is value? Does anything have intrinsic value? “Intrinsic” value is a broken concept. The individual’s value on a good comes from the potential for the good to meet human needs. Yet those needs are all personal choices. So your value for item A and my value for item A will always be different. The value of water in the desert will be far greater than in the modern American home. Often you’ll hear that bitcoin is backed by nothing. That’s true – money is the foundational bottom layer, and bitcoin is better money (see HERE for a nice comparison of money by Fidelity). We use money as a tool to help us facilitate trade and solve the Coincidence of Wants. The Coincidence of Wants is an economic concept that refers to the situation in a barter system where two parties each possess goods or services that the other party desires, creating a mutual willingness to exchange. For a trade to occur in a barter system, both parties must have a double coincidence of wants, meaning they must each want what the other has to offer. If this condition is not met, a trade cannot be initiated. The absence of a coincidence of wants is one of the major limitations of barter systems, as it makes finding suitable trading partners and conducting exchanges difficult. The introduction of money in an economy resolves the problem of the coincidence of wants. Money acts as a medium of exchange, enabling people to buy and sell goods and services without requiring a direct match of desires between the trading parties. This significantly simplifies transactions and facilitates the exchange of goods and services more efficiently than barter systems.

What about the idea of regulatory clarity? I’ll own bitcoin when….

There is regulatory clarity on bitcoin – it’s a monetary commodity. Gary Gensler, the SEC chair, has noted this several times. Cynthia Lummis is a Senator from Wyoming and bitcoin holder and advocate and helps oversee the Banking, Housing, and Urban Affairs Committee. Montana and Arkansas signed a bill proposing that a Bitcoin mining business may operate in the states. Several others are looking at this as well. Texas has added to its State’s Bill of Rights a provision to recognize the right of individuals to possess, retain, and utilize digital securities. Lastly, bitcoin’s decentralized nature makes it impossible for anyone, even governments, to control or stop it. Given that it will always exist, the dynamic becomes one of “jurisdictional arbitrage,”; i.e., if one oppressive government makes owning bitcoin fully illegal with harsh penalties, other governments will embrace the opportunity to become home to bitcoin-related businesses, investors, and capital will move where it is best treated also called the “Theory of Capital Mobility.” It has important implications for policymakers. They should create an environment that attracts foreign investment and promotes domestic capital formation.

As we close, bitcoin skeptics might sound smart, but it comes back to Brandolini’s law. For those unfamiliar, it’s known as the “Bullshit Asymmetry Principle,” which is a concept that highlights the disproportionate effort required to refute false or misleading information compared to the effort required to create it. The amount of energy needed to refute something is an order of magnitude bigger than to produce it. It’s easy to send a link on Twitter; it’s much harder to do the work and learn about a topic and challenge your priors. The biggest fools are those knowing about bitcoin and yet still hold none.