Bitcoin's Bubble Means That Current Levels Shouldn't Be A Concern

Those who stand in implacable opposition to Bitcoin seem to want it both ways. Look, they say, Bitcoin has dropped from over $1100 to under $250; it is obviously worthless! Then, at the same time, they maintain that the jump up to nearly $1200 was evidence of a massive speculative bubble and had no real bearing on the actual value of the virtual currency.

Surely though, if the second contention is true then the first has no validity until we break significantly below pre-bubble levels.

Bitcoins value against the U.S. Dollar (BTC/USD) started that crazy two month run up from a level just below $200, as the chart below shows.

If that was evidence of a serious bubble as most logical people would assume, then we cannot draw any broad conclusions about the intrinsic value of the underlying instrument until the effects of that bubble have fully been washed through the market, and that can take time.

After collapsing from bubbly levels in 2007, real estate prices in the U.S. only recently began to recover. The bubble in gold popped in 2012 and only now are we beginning to see signs of some fragile stability. Tech stocks took years to stabilize following the crash in 2001. There were plenty of detractors at that time who maintained that the new fangled internet thing would never catch on and falling prices proved it, so there! Even as those bubbles were collapsing, though, the underlying instruments retained intrinsic value. Why would the Bitcoin bubble of 2013 be any different?

If anything, when looked at as a deflating bubble, the drop in price has been fairly slow.

A comparison of the rapid rise and gradual decline of BTC in the top chart to the straight up and down of the NASDAQ from 1998-2003 (a far cry from where NASDAQ is today) in the bottom chart indicates that Bitcoin has, after all, some underlying support.

Should the decline in exchange value continue to a point below the roughly $150 level that marked the last period of relative stability throughout most of 2013, then a case could be made that the real, underlying value of BTC was questionable before the jump. Until then, though, the logical view is that there was indeed a bubble at the end of that year; a bubble that is still deflating. What makes that possible is that, while a currency by definition, the nature of Bitcoin makes it, from a trading and pricing perspective, more of a commodity.

When I started writing about Bitcoin last year, I wrote that I viewed it as just another currency that could be traded. Since then, though, as my understanding and appreciation has deepened, I have moderated that view. The facts that both the rate of supply and the total possible issuance are limited make it behave in many ways more as a commodity. That is no accident; Bitcoin mining was modeled on gold from the outset.

Bitcoin is also differentiated from currencies by one other very important characteristic; there is no centralized issuing authority. That means that there is no body or institution to step in as the exchange rate declines and attempt to bully the market into accepting an inflated value. Bitcoin will find its own level according to free market principles, and given that, the time to question its existence based on the exchange rate is still a long way off.

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Bitcoin's Bubble Means That Current Levels Shouldn't Be A Concern