Bitcoin: bubble or true benefit for society?

Cape Town - Bitcoin’s investment returns are attracting significant interest from retail investors. However, some caution is merited, says Overberg Asset Managers in its weekly economic overview.

Quoting German financial journalist Clemens Schmale, who posed the question: “Bitcoin: Die mutter aller blasen? (Bitcoin: the mother of all bubbles?)", OAM says bubbles are common to financial markets.

It lists the Tulip speculative bubble of the 1630s, the South Sea Company's share plunge of the 1720s and more recently, and closer to home, the coloured game bubble of 2014. 

Despite the caution, OAM says the Blockchain technology Bitcoin developed has the potential to transform business, government and society.

"The real value is not in Bitcoin but in Blockchain technology and its ability to disrupt and transform diverse industries in the private and public domain."

The technology has been developed around a distributed general ledger protocol software which is open to anyone. For example, Blockchain’s distributed ledger could be used to replace stock exchanges, to keep records of title deeds, certificates of ownership and other forms of ownership. (See Bottom line below for more)

South Africa economic review

• Retail sales unexpectedly increased in June by 0.2% month-on-month its fifth straight monthly gain. On a year-on-year basis retail sales increased a robust 2.9% up from 1.6% in May and well above the 2.3% consensus forecast. Second quarter (Q2) retail sales grew by a surprisingly strong 8.9% quarter-on-quarter annualised the strongest quarterly growth since 2011.

The recovery in retail sales is attributed to falling inflation and especially buoyant growth in food and beverage volumes. Combined with upbeat June manufacturing and mining production data released last week, the latest retail sales are consistent with Q2 GDP growth of around 2.3% quarter-on quarter annualised, putting an end to the country’s short recession.

South Africa suffered two consecutive quarters of GDP contraction in Q1 and Q4 2016.

• In its update on South Africa’s credit rating Moody’s reiterated the assessment made on 14th July in which it downgraded the country’s foreign and local currency ratings by one notch to Baa3 although still investment grade. However, Moody’s retained its negative outlook opening the door to a further downgrade.

Citing concern over South Africa’s susceptibility to event risk, Moody’s emphasised three key factors which could lead to a further credit rating downgrade to junk status.

These include liquidity pressures at state-owned enterprises leading to pronounced government intervention, unpredictable policy shifts that could undermine economic or fiscal strength, and further erosion of the independence of the country’s institutions. Moody’s next review is scheduled for end November, although no change in rating is expected until after the conclusion of the ANC elective conference from 16th-20th December.

The week ahead

• Reserve Bank composite business cycle leading indicator released on Tuesday, 22 August. The leading economic indicator, which measures expected business conditions 6-9 months ahead, declined marginally, to 95.7 in June from 95.8 in May.

• Consumer price inflation (CPI) release on Wednesday, 23 August. CPI decreased for a sixth straight month from 5.1% in June to 4.6% in July, marking the first dip below 5% since November 2015. Inflation is benefiting from lower food and fuel prices. The effects of last year’s drought continue to fade and the petrol price was cut last month by 68c per litre.

In addition, Eskom’s tariff increase this year was just 2.2% compared to 9.4% in 2016. The inflation rate is likely to remain below 5% for the remainder of the year, well below the upper limit of the Reserve Bank’s 3-6% target range, signaling the likelihood of further interest rate cuts over the months ahead.

Technical analysis

• The rand is testing key resistance at R13.00/$, which if broken would target further gains to R12.50/$ and thereafter R12.00/$.  

• The US dollar index has tried but failed to break through a major 30-year resistance line suggesting the three-year bull run in the dollar may be over.

• Following the announcement of the snap election the British pound has broken above key resistance at £1.30/$ which has now become a key support level and should promote further near-term currency gains.

• The JPMorgan global bond index is testing the support line from the bull market stemming back to 1989, which if broken will project further sharp increases in bond yields.

• The US 10-year Treasury yield has failed to break below key resistance at 2.0% raising the probability that the multi-year bull trend in US bonds is over.

• The benchmark R186 2025 SA Gilt yield is trading in a tight trading range of 8.5% to 9.0%. A break above 9.0% is required for the yield to move decisively higher towards the 10.5% target level.

• Key US equity indices, including the S&P 500, Dow Jones Industrial, Dow Jones Transport, Nasdaq and Russell 2000, have simultaneously set new record highs, confirming a bullish outlook for US equity markets.  

• The Brent oil price has broken above key resistance at $50 and likely to remain in a trading range of $50-60 over the foreseeable future. Base metal prices are in a bull trend confirmed by copper’s increase above key resistance at $6 000 per ton.

• Gold has developed an inverse “head and shoulders” pattern, which indicates further upward momentum and a test of the $1400 target level.

• The break above 54 200 on the JSE All Share index projects an upward move to 60 000 marking a new high for the JSE.

Bottom line

• The price of a Bitcoin has increased from US$960 at the end of December 2016 to $3 941 on 21 August, a massive 310% gain. In the past month alone the Bitcoin price has surged by 104%. Bitcoin was priced at $1 931 on 17 July and flew through $4 000 on 14 August peaking at $4 350 on 18 August.

• Bitcoin’s investment returns are attracting significant interest from retail investors. However, some caution is merited. German financial journalist Clemens Schmale posited the question: “Bitcoin: Die mutter aller blasen?” (the mother of all bubbles).

Bubbles are common to financial markets. The Tulip mania of the 1630s is perhaps the first recorded speculative bubble. Between November 1636 and May 1637, the price of a tulip bulb climbed by over 1 000% and dropped back from its peak by over 99%.

A few decades later between 1719 and 1722 the South Sea Company share price followed a similar trajectory. Sir Isaac Newton reportedly lost the present-day equivalent of £2.4mn and was quoted as saying: “I can calculate the movement of the stars, but not the madness of men.”

• Closer in time and closer to home the bubble in unusually coloured game lifted the price of white impala to an average of R8.2m 2014. In 2016 the average price had fallen to just over R48 000. Black impalas, which sold for an average of R384 964 in 2014 would do well to fetch more than R10 000 at the start of this year, according to Gerhard Damm, executive at the International Council for Game & Wildlife Conservation.

• Bitcoin was started in 2008 by Satoshi Nakamoto as the world’s first cryptocurrency. It’s first ever quote was in 2009 at a rate of 0.08 US cents per Bitcoin. The first transaction in Bitcoin was executed in 2010 when a Florida based programmer Laslo Hanyecz purchased a pizza for 10 000 bitcoins, the equivalent in today’s terms of over half a billion rand.

Bitcoin has continued to grow as a means of exchange and by the end of June 2014, 67 000 merchants across the world were accepting Bitcoin as a means of payment. Big companies including Dell, Microsoft and Expedia now accept Bitcoin. The market capitalisation of Bitcoin has increased to $65.1bn.

• Even more impressive than the price gain is the utility of Bitcoin. As a peer-to-peer cryptocurrency which is created, transferred and held electronically, Bitcoin payments bypass centralised financial institutions such as banks, credit institutions and brokers. With its decentralised ledger system Bitcoin cuts out the middlemen, decreasing the transaction cost and increasing efficiency. Put in context, the 2-3% charges linked to all Visa and Master Card transactions processed in 2013, (around 87% of global credit card transactions) amounted to about $250bn.

• Bitcoin has been developed around a distributed general ledger protocol software called Blockchain which is open to anyone. Blockchain has the potential to transform business, government and society. For example, Blockchain’s distributed ledger could be used to replace stock exchanges, to keep records of title deeds, certificates of ownership and other forms of ownership.

Blockchain could radically reduce the cost of implementing and enforcing contracts. While Blockchain, the technology behind Bitcoin, has massive potential to transform industries across private, public and government sectors, the investment appeal of Bitcoin is questionable.

• Part of Bitcoin’s investment appeal is that there will only ever be 21 million Bitcoin in existence. However, the scarcity value of Bitcoin is undermined by the multitude of other cryptocurrencies being developed. In terms of size Bitcoin is followed by Ethereum, Bitcoin Cash, Ripple, Litecoin and thousands of others. There are over 900 cryptocurrencies already available over the internet, and a number being added every week.

• The real value is not in Bitcoin but in Blockchain technology and its ability to disrupt and transform diverse industries in the private and public domain.

For the full report, including a look at international markets, click here.

* Overberg Asset Management (OAM) is an Authorised Financial Services Provider No. 783. Overberg specialises in the private management of local and global discretionary portfolios as well as pension products.

Disclaimer: Information and opinions presented in this report were obtained or derived from public sources that Overberg Asset Management believes are reliable but makes no representations as to their accuracy or completeness. Any opinions, forecasts or estimates herein constitute a judgement as at the date of this Report and should not be relied upon. There can be no assurance that future results or events will be consistent with any such opinions, forecasts or estimates. Furthermore, Overberg Asset Management accepts no responsibility or liability for any loss arising from the use of or reliance placed upon the material presented in this report.

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