Fundamental Analysis of BTC, is BTC overvalued?

[cloud9]

Pseudonymity, the interest of a select few for various reasons, is just one of Bitcoin's benevolent properties.

The others include, amongst other, the following:  

- Instant
- Vast distances or small distances
- Simple (no client needed when using mybitcoin.com , for example)
- Mobile (mybitcoin.com for example, can be accessed from a mobile smart phone / internet enabled phone or device)
- Secure
- Universal
- Scarcity
- Novelty rewarding early adopters
- Owned and managed by adopters

and most importantly maybe,

- Mercantibility (% of total quantity in existence exchangeable for others over certain period of time) :  

Compared with Gold (~165,000 tonnes/metric tons ever mined, http://didyouknow.org/gold/ ) of which 772,908 open interest 100 troy ounce contracts on the major exchanges for the current month are reported ( http://www.cftc.gov/dea/options/other_sof.htm ) amounting to 772,908 x 0.003110348 = 2,404.01 mtons (metric tons) in current month trade.  This equates to about 2,404.01 / 165,000 x 100% = 1.457% monthly of total Gold in existence.  

Bitcoins presently in existence is 6.347 million ( http://bitcoincharts.com/markets/ ), and a year ago it would have been 365 x 24 x 6 x 50 = 2.628 million less - giving an average of bitcoins in existence for the year of 4.487 million.  For the past 12 months 5,235,547.17 Bitcoins have been traded on the major BTC exchange ( http://bitcoincharts.com/markets/mtgoxUSD_trades.html under Recent Trade Volume 1y ).  This is an average of 436,295.60 BTC per month.  This equates to about 436,295.6 / 4,487,000 x 100% = 9.724% monthly of total BTC in existence.

If the volatile market and exponential growth (maybe attributable to wholesale distribution from existing to new adopters) of BTC is troublesome to a merchant, he may elect to reduce his exposure to BTC by immediately (maybe programmatically) exchanging the received BTC for something else after his transaction with a BTC giving customer has been completed.

[cloud9]

Since mining a whole new currency of your own is cheaper than mining bitcoins AND people who already bought your own new currency alreeady bouht something from you thus seem more like "your customers" than people using other currencies, maybe the fundamentals of coins you create yourself and provide to your customers so that you can peg your prices to them could look better than the fundamentals of bitcoins?

-MarkM-

Actually with the Bitcoin algorithm - it seems that there can only be ONE most economically viable implementation - because as soon as another currency (of higher perceived market value) can be mined at a lower difficulty - miners in the network will point their resource power to the more economically mineable currency - so DIFFICULTY and NETWORK hash size are interrelated to the price of BTC (or one of its forks for that matter).

[ron]

This has been a good thread. Thanks 

[ene]

Which is exactly what i'm saying for BTC.  The value in BTC is the work input: the electricity.  That is the only fundamental value for BTC, atm, because nobody is using BTC for actual goods or services.  When people do, then we can assess some value.  But right now, the price is completely speculation/expectation driven.

I don't want this to degenerate into an argument of semantics.  We can all agree that the value of a currency is what you will trade it for, and over a wide enough population, that value becomes more accurate.  It is also possible for the few to drive up prices unrealistically via speculation by ignoring fundamentals.  Look at the housing bust, the dotcom bust, ANY bust.

I'm trying to get at the underlying fundamentals of BTC, which nobody seems to want to approach b/c they feel it's an attack on BTC, which it is not, I think we can all benefit from fundamentals.

You are completely wrong.

It's a common misconception that Bitcoins gain their value from the cost of electricity required to generate them. Cost doesn't equal value – hiring 1,000 men to shovel a big hole in the ground may be costly, but not valuable. Also, even though scarcity is a critical requirement for a useful currency, it alone doesn't make anything valuable. For example, your fingerprints are scarce, but that doesn't mean they have any exchange value.

If you don't even understand this there isn't any point in talking further.

[dacoinminster]

It's all about supply and demand. We all know the upper-limit on supply (21 million bitcoins, most of which aren't for sale). That just leaves demand.

I've given it a lot of thought, and I believe that demand is going to be insane, for reasons that are rarely discussed on this forum. You can check out my reasoning in the thread in my signature: Bitcoin price increases are just getting started

[markm]

Since mining a whole new currency of your own is cheaper than mining bitcoins AND people who already bought your own new currency alreeady bouht something from you thus seem more like "your customers" than people using other currencies, maybe the fundamentals of coins you create yourself and provide to your customers so that you can peg your prices to them could look better than the fundamentals of bitcoins?

-MarkM-

Actually with the Bitcoin algorithm - it seems that there can only be ONE most economically viable implementation - because as soon as another currency (of higher perceived market value) can be mined at a lower difficulty - miners in the network will point their resource power to the more economically mineable currency - so DIFFICULTY and NETWORK hash size are interrelated to the price of BTC (or one of its forks for that matter).

Hmm that makes it sound as if miners will keep jumping to the lowest difficulty blockchain, helping bring it into line with the others.

Add speculation, which might at least prompt some miners to quickly scoop up at least a few of each really easy chain just because it is so darn easy and might some day turn out to appreciate a lot in value, and maybe new blockchains are not such a bad proposition afterall.

I am not even assuming all blockchains will mint coins for miners. Some might already have their coins in one central account or group of accounts from the start and only ever offer transaction fees to miners. Maybe they will find they need to offer high fees, depending on the value miners think the coins are worth to them.

Notice that "to them". If a few pop stars decided to auction off their autographs or used underwear or sperm or eggs or whatever their fans would go crazy for in some new blockchain currency, maybe TsunamiReliefCoin or whatever, then regardless of whether the fans think they can resell the coins or the [whatever] that is rare and maybe not even of any value at all to other than some weird market such as "fans of this that or the other person" some folk might choose to mine the new currency instead of straight out buying it.

(Heh, imagine "you cannot bid unless you actually have the number of coins you are bidding", a whole lot of coins could get bought just to compete for that one pair of so and so's used socks or whatever...)

-MarkM-

(Hmm, TsunamiReliefCoin eh? All 21,000,000 coins in genesis block with private key sent to red cross or somesuch, hmm, an idea?)

(Hmm, maybe the whoever, red cross etc, gives us the public address so we don't even know private key only they do?)

[Andris]

I don't think bitcoin will have another period of explosive growth until it moves a decimal place or two to the right. The size of most people's rewards is probably limiting its value at the moment.

But as everyone else says, a currency is worth the trust society places in it.

[zef]

Really interesting break down from both cloud9 and picollo7.  The only problem is I am not so sure you can assume that the cost of generating coin and maintaining the network has anything to do with it's ultimate value.  If anything, I think cause and effect are reversed.  Based on the current price of coin(determined by other means) this would effect the size of the network and number of miners, as they either drop out or expand due to loss or profit.

[picollo7]

Which is exactly what i'm saying for BTC.  The value in BTC is the work input: the electricity.  That is the only fundamental value for BTC, atm, because nobody is using BTC for actual goods or services.  When people do, then we can assess some value.  But right now, the price is completely speculation/expectation driven.

I don't want this to degenerate into an argument of semantics.  We can all agree that the value of a currency is what you will trade it for, and over a wide enough population, that value becomes more accurate.  It is also possible for the few to drive up prices unrealistically via speculation by ignoring fundamentals.  Look at the housing bust, the dotcom bust, ANY bust.

I'm trying to get at the underlying fundamentals of BTC, which nobody seems to want to approach b/c they feel it's an attack on BTC, which it is not, I think we can all benefit from fundamentals.

You are completely wrong.

It's a common misconception that Bitcoins gain their value from the cost of electricity required to generate them. Cost doesn't equal value – hiring 1,000 men to shovel a big hole in the ground may be costly, but not valuable. Also, even though scarcity is a critical requirement for a useful currency, it alone doesn't make anything valuable. For example, your fingerprints are scarce, but that doesn't mean they have any exchange value.

If you don't even understand this there isn't any point in talking further.

Ugh, you BTC flag wavers are TOUCHY!  It’s simple economics.  If you can make a BTC worth 9 bucks for 25 cents, and the barriers to entry are very little, then other producers will keep entering the marketplace until the price equals cost, ie perfect competition. If you don't even understand this there isn't any point in talking further.

Ok, if you want to get into monetary policy, then sure, the Fed is responsible for the amount of circulation.  They increase or decrease the amount based on a number of factors, but ultimately the GDP, i.e. the collective work of the US.  So yeah, your work creates dollars.

You are completely 100% wrong on all points.

The Federal Reserve Bank has nothing to do with the amount in circulation.  (Go here if you'd like to know what they really do)
GDP has nothing to do with work.  (It measures spending ONLY)
Work has nothing to do with dollar creation.

And while I'm at it, this is wrong too:

It just doesn't make sense economically to spend BTC today when you know tomorrow it will be worth 15+ percent more.  I'm sure people HAVE used them for goods and services, but not in this current environment where we're seeing at least a dollar a day increase in value.

First, no one knows what anything will be worth tomorrow.  And second, people do things all the time that don't make sense economically.

By the way, I would really like to get back to your insane (and I mean that clinically) notion that one currency is worth its production value, while another is worth its exchange value.  In particular, I'd really love to hear how exchanging my work for dollars creates dollars (or at least gives them value, somehow) while exchanging my work for bitcoins does not.

[edit:  fixed misplaced quote tag]

You just made a fool of yourself.  It’s called monetary policy. http://www.federalreserve.gov/monetarypolicy/default.htm
Also, you are dead wrong about GDP, here’s a direct quote from the Bureau of Economic Analysis:
Real gross domestic product -- the output of goods and services produced by labor and property located in the United States. Source http://www.bea.gov/newsreleases/national/gdp/gdpnewsrelease.htm the opening line.

I’m tired of trying to educate you.  You obviously have your mind made up and wish to stay ignorant.  Do some research and learn about economics before you spout misinformation.

[picollo7]

Assuming all else stays proportionally the same as the status quo the following is an attempt at an evaluation of BTC value:

- Total current network hash:  3.913 Thash/s  (Source: http://bitcoincharts.com/ )
- Assume typical economical miner's hash :  300 Mhash/s (Source:  http://bitcointalk.org mining forums) - Stand to be corrected
- Assumed estimate of total economically mining machines:  13 000 approximately
- Assume $1000 capital cost per economically mining machine, gives a total network capital cost of $13 million
- Depreciating asset capital cost depreciated over a five year term, gives $2,6 million capital cost depreciation per year.
- Expected Return on capital investment per year (assume 20% - high risk investment), gives $2,6 million return on investment cost.
- Running cost:  electricity, assume 0.5kWh power consumption per machine, at $0.15/kWh assumed average worldwide cost, gives 13 000 x 24 x 365 x 0.5 x 0.15 = $8,5 million total yearly electricity running cost
- Running cost:  rent, salaries, etc, assume just 100% (reimbursing the average miner on a machine only $1000!!! per year!!!! in salaries and rental space) yearly on capital cost, gives $13 million
- Maintenance cost, assume 2% yearly on capital, gives $0,25 million.
- Bringing us to an assumed total yearly cost to business for the Bitcoin network of $26,95 million.  The network generates a total of 50BTC roughly every 10 minutes at present, thus 10 x 6 x 24 x 365 = approximately 525 600 BTC per year.  The total cost per BTC generated securely and maintaining the network at present will thus be approximately $26,95 million divided by 525 600 = approximately $51.27!!!!  Is it a small price to pay for the owner's rights to secure entries in a global digital cryptographic key accounting system - which subsequently allows the owner of the rights to transfer some/all of those rights securely?

Now this cost of $51.27 per BTC is for maintaining a network difficulty of 244139.48158254 ( http://blockexplorer.com/q/getdifficulty ) at present.  When more BTC mining machines are added making the network more secure and difficulty increases ( http://bitcoin.sipa.be/ ) but the bitcoin generation rate remains unchanged - this will result in an increase of BTC securing/generating cost.  Maximum difficulty never to be reached is 2^224 ( https://en.bitcoin.it/wiki/Difficulty#What_is_the_maximum_difficulty? )

EXCELLENT!  I like your way, I took this and changed some of the assumptions, and got a value of $9.08 per BTC.  (You made a calculation error with yearly BTC, 50 BTC generated 6 times an hour 24 hours a day 365 days a year is 2,628,000 BTC per year.  That 10 in the formula should be a 50, so your analysis would give about $5.13).
Anyhow, this does not take into account growth rates.  So obviously this will change.  But it’s a great start.

[kjj]

You just made a fool of yourself.  It’s called monetary policy. http://www.federalreserve.gov/monetarypolicy/default.htm
Also, you are dead wrong about GDP, here’s a direct quote from the Bureau of Economic Analysis:
Real gross domestic product -- the output of goods and services produced by labor and property located in the United States. Source http://www.bea.gov/newsreleases/national/gdp/gdpnewsrelease.htm the opening line.

I’m tired of trying to educate you.  You obviously have your mind made up and wish to stay ignorant.  Do some research and learn about economics before you spout misinformation.

Monetary policy is how they manipulate interest rates, which is not the money supply.  You'd know that if you'd ever read the minutes of the FOMC meetings.  Go find out why Bernake is called "Helicopter Ben".

You might want to look into how GDP is actually calculated.  I'll give you a hint, production is not part of it, but spending is.  They could say that GDP is found by counting unicorns, but that doesn't change the math.  What they actually do is much more important than what they say they do.

Once again, you've done an excellent job dodging my direct challenge, so I'll issue it a third time.  Tell me how exchanging my work for dollars creates dollars (or at least gives them value, somehow) while exchanging my work for bitcoins does not.

[stic.man]

wait producing a BTC costs only 28 cents a day?

I keep seeing a lot of miners talking about 1 BTC per day on average from the pools.  right now thats like 250 bucks a month with today's pricing.  their electric bills are only being affected $9/month in order to mine?

[picollo7]

You just made a fool of yourself.  It’s called monetary policy. http://www.federalreserve.gov/monetarypolicy/default.htm
Also, you are dead wrong about GDP, here’s a direct quote from the Bureau of Economic Analysis:
Real gross domestic product -- the output of goods and services produced by labor and property located in the United States. Source http://www.bea.gov/newsreleases/national/gdp/gdpnewsrelease.htm the opening line.

I’m tired of trying to educate you.  You obviously have your mind made up and wish to stay ignorant.  Do some research and learn about economics before you spout misinformation.

Monetary policy is how they manipulate interest rates, which is not the money supply.  You'd know that if you'd ever read the minutes of the FOMC meetings.  Go find out why Bernake is called "Helicopter Ben".

You might want to look into how GDP is actually calculated.  I'll give you a hint, production is not part of it, but spending is.  They could say that GDP is found by counting unicorns, but that doesn't change the math.  What they actually do is much more important than what they say they do.

Once again, you've done an excellent job dodging my direct challenge, so I'll issue it a third time.  Tell me how exchanging my work for dollars creates dollars (or at least gives them value, somehow) while exchanging my work for bitcoins does not.

The Federal Reserve does more than just “manipulate interest rates.”  If you think that’s all they do, you’re just demonstrating your ignorance about the subject.
http://en.wikipedia.org/wiki/Gross_domestic_product
Determining GDP
GDP can be determined in three ways, all of which should, in principle, give the same result. They are the product (or output) approach, the income approach, and the expenditure approach.
The most direct of the three is the product approach, which sums the outputs of every class of enterprise to arrive at the total.
. . .
You have a serious misunderstanding of economics and have repeatedly demonstrated your ignorance.  If you can not understand the basics, you disagree with reputable, verifiable facts, then there is no point in me explaining this to you.
There’s so many things wrong with your “challenge”.    “Tell me how exchanging my work for dollars creates dollars (or at least gives them value, somehow) while exchanging my work for bitcoins does not.” Is the complete OPPOSITE of what I said.  They both are the same thing, your value for a dollar is what you input to earn it, just like your value for a BTC is what you input to earn it.  SIMPLE.  What is so hard to understand about that?  Your “challenge” is easily explainable, but obviously you aren’t interested in understanding, only arguing.

[picollo7]

wait producing a BTC costs only 28 cents a day?

I keep seeing a lot of miners talking about 1 BTC per day on average from the pools.  right now thats like 250 bucks a month with today's pricing.  their electric bills are only being affected $9/month in order to mine?

Right.  I made the assumption that most of the hashing is done by the most efficient computers, assuming mining farms with 6990s produce a majority of the work.  The factor is 2.5 megahashes per joule from the mining rig hardware comparison guide.  So, if you want to downplay that factor, and say it's only 1.5, then multiply 28 cents by 1.66, so, about 47 cents.  Even at 20 percent efficiency of what I estimate, that's about 1.50 per BTC, so the gains are at LEAST 6 bucks per BTC, or at LEAST 400 percent, per DAY. Which is insane, nothing gives you that return, ever, anywhere, which is why the gold rush to mine will continue to skyrocket and drive up the difficulty, AND/OR, there will be a price crash.

[stic.man]

there are dudes talking about some pretty big electric bills which is why I was wondering about the cost to produce each one.

It makes no sense that everyone on this board doesn't have like 10 rigs each mining the shit out of everything if each one is adding only $9/month to their bill.

I'm also wondering why something like this would happen http://techland.time.com/2011/05/23/report-police-confuse-bitcoin-miners-power-use-for-weed-grow-op/

[picollo7]

Well the issue with having 10 mining rigs is the cost of capital.  That would be like 8 grand.  Few people have that kind of scratch lying around.  Also, you'd probably make more money directly investing that 8gs than mining.

Also, another thing to consider is the difficulty increases, which means that 8 grand of computing power will be worth less every 10 days or so.

But yeah, that's exactly my point.  The price makes no sense.  Please go through the calculations yourself.  The whole point of this thread is to arrive at a fundamental value, which very few people seem to want to do, they get offended.

To me, that's signs of irrationality.

[stic.man]

the thing is why are dudes flipping their shit about $9 a month in electricity?

[fadisaaida]

Well the issue with having 10 mining rigs is the cost of capital.  That would be like 8 grand.  Few people have that kind of scratch lying around.  Also, you'd probably make more money directly investing that 8gs than mining.

But yeah, that's exactly my point.  The price makes no sense.  Please go through the calculations yourself.  The whole point of this thread is to arrive at a fundamental value, which very few people seem to want to do, they get offended.

To me, that's signs of irrationality.

while i do agree with you on most of the things, i don't think we can just agree on a value!, unless some of real founders (the very 1st miners) make a stand and try to stabilize the prices with their stock coins, speculations,hoarding will keep happening, and even more , and as long as people at mtgox can place bids/ask without actualy having the order it can still fool new comers ! Ofcourse i assume that the very 1st miners care about the bitcoin itself more than the profit like most of the late coming miners who just waiting for prices to go up and up and up, and they will crash the market once any sign of crash will show up.

[picollo7]

the thing is why are dudes flipping their shit about $9 a month in electricity?

Like I said, my calcs were based on the most efficient computers and at a rate of $.1 per kwh.  So if they have more expensive electricity, and less efficient pcs, then that rate can easily go up by a factor of 10.  Also, bear in mind, that's only for 1 BTC a day, so for people with farms and stuff, that will go up by however many BTC they're generating.

I made the efficiency assumption because the most efficient miners will reap the most profits, so there is a huge incentive for market entrants to be efficient, esp as difficulty increases.

The whole point is that in perfect competition, price equals marginal cost for the most efficient producer.  The BTC mining market is converging toward a perfectly competitive market due to its size and low barrier to entry.  So with all that in mind, the inefficiencies will be competed away.  This is all in the long term, in the short term, who knows?

[Insti]

Tell me how exchanging my work for dollars creates dollars (or at least gives them value, somehow) while exchanging my work for bitcoins does not.

... Your “challenge” is easily explainable if you understand the facts,

I'm also interested in the answer to this question, could you please list the facts that explain your answer?
Thanks.