Impending Bubble or Surefire Bet: How to Explain the Soaring Price of Bitcoin

Bitcoin InvestingWhen a whitepaper drawing out the framework for a radical, new decentralized virtual currency, began making its way around obscure cryptography newsletters in 2008, few but the most hardcore tech nerds gave the idea any credence. Yet, in just under a decade this once unheralded innovation has gone from a price of $0.30 per coin, to almost $20,000 a token.

With the current market for Bitcoin coming in at over $300 billion dollars, everyone from media outlets, to financial conglomerates, to government regulators across the world, seems to be sitting up and taking notice.

But how did a currency that was once known solely as the preferred method of payment for illicit deals on the internet’s black markets become the mainstream juggernaut it is today?

Embracing the Establishment

Admittedly the profile of the average Bitcoin investor has changed somewhat over the past couple of years. Where once, free market extremists and hackers drove cryptocurrency prices, today a score of major Wall Street players are pouring their money into Bitcoin. In fact, many of these well-established institutional investors have set up hedge funds specifically for the purpose of capitalizing on the rapidly appreciating virtual currency.

Respected financial leaders including: Goldman Sachs chief executive Lloyd Blankfien, and IMF head Christine Lagarde, have only added fuel to the fire, by expressing their interest in the possibilities offered by the easily accessible exchange system.

As stock exchanges open their doors to trading on Bitcoin futures, the currency now finds itself under the regulatory purview of the U.S. Commodity Futures Trading Commission. And the CFTC has been quick to make its presence felt. Under new proposed guidelines issued by the agency, any contract which fails to result in a handover of virtual currency within 28 days will result in the transaction being treated as a futures contract; with all the strict oversight that entails.

The increased scrutiny on risky transactions is expected to reduce some of the characteristic volatility of Bitcoin, as safer, more liquid investment begins to enter the market.

Greater Usage

Not only is Bitcoin being traded more often on a daily basis, an increasing number of consumers are beginning to use the currency for transactional purposes. In just the past couple of years the number of transactions made using Bitcoin has grown from 50,000 to 140,000 per day; with the average daily value of these exchanges pegged at around $1.5 billion in late October.

Today, major online retailers such as Overstock, Expedia and Newegg accept Bitcoin payment for their goods and services. With Japan authorizing Bitcoin as an official payment method in early 2017, an estimated 260,000 brick and mortar stores across the country have responded, by adapting their checkout options to include Bitcoin payment through mobile applications. As countries like Russia and India look to follow suit, it seems clear that widespread acceptance in other industries across the world is soon to follow. Indeed just this past Friday two luxury homes in the UK were sold using Bitcoin as the method of payment.

A Self-Fulfilling Prophecy

Many industry insiders blame Bitcoin’s surging popularity on simple human emotion. With Bitcoin rising almost 5000% since early January, many investors are driven to buy through the fear of missing out on the surging currency now, while there’s still a chance for even greater appreciation. This is despite the fact that selling Bitcoin at market value is a far more difficult proposition, than buying it, at this point in time.

For many Bitcoin adopters, investment in the currency is a signal of confidence in the future of the blockchain. These cryptocurrency enthusiasts are buying Bitcoin for the future promise it holds as a store of value, than as an investment to sell or hold.  In a world where many Bitcoin fanatics expect the currency to surpass a million dollars per coin in just a few years, that doesn’t seem like such a far-fetched idea anymore.

Move to the Lightning Network

One of the biggest stumbling blocks facing Bitcoin currently is the speed and price of transactions on the main blockchain.

Currently, the network only allows 1MB of data to be allocated to each block of a Bitcoin transaction. This means that there’s a very limited amount capacity available for each new transaction; and the capacity that is available will go towards the highest bidder. So the average consumer could find themselves paying $9-$12 for a simple transaction that takes up to 10 minutes to go through. For a currency that prides itself on being accessible and responsive, those sorts of issues don’t exactly engender customer goodwill.

Lightning builds upon the decentralization of Bitcoin, by adding smart contract functionality to the blockchain. By moving Bitcoin transactions to this new protocol, it would become possible to make payments to other network participants in milliseconds. The increased capacity of the network would also allow billions of transactions to take place at the same time, without any slowdown in speed.

Moving to Bitcoin transactions to the Lightning network would drastically reduce the cost of each transaction, and greatly ease the amount of congestion on the main block chain as well. All in all, this innovation could see Bitcoin truly become a viable method of payment for the everyday sale and purchase of goods.

With beta testing on Lightning finishing recently, industry insiders have drawn a strong correlation between this new protocol and the sudden surge in Bitcoin demand.

A Note for Concern

Even as institutional investors and private buyers alike continue to clamor for Bitcoin, many banks and trading groups are urging a more cautious approach. Sudden swings in value are very common with the cryptocurrency. In April 2013, Bitcoin rose as high as $223 only to fall back down to $63 almost overnight. In November of that same year prices skyrocketed to $1150 only to crash to $500 by December.  It’s this sort of volatility that gives many investors pause for thought when it comes to Bitcoin investments.

Many of these parties are also concerned by the ease with which derivative trading on Bitcoin was okayed by the CFTC. While the currency is certainly riding high currently, shrewd market participants may be getting ready to short the stock in anticipation of a sudden price drop. With no fundamental value underlying Bitcoin, this sort of manipulation could see the pricing bubble collapse, suddenly and spectacularly as investors move to abandon ship.

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