Bitcoin’s price hit $5,000 last week. It’s still a dumb investment

Late last week, I noticed a spike in what we might think of as a certain financial index. It wasn’t the trading in a financial instrument per se, but in the online traffic in a column I had written in December 2013. The column examined the recent crash in the price of bitcoins, which had plummeted to $600 from $1,200 in just two days. The headline read:

“The bitcoin crash of 2013: Don’t you feel silly now?”

What was causing the spike in readership of that piece more than three years later was that the price of bitcoins was surging toward $5,000, a point it breached during the day on Friday. A few bitcoin true believers had dug out that old story and were, metaphorically, waving it in my face. Tweets citing the piece and asking if it wasn’t me who should be feeling silly came pouring into my Twitter feed. Suddenly I was a meme.

So here’s my short answer. No, I don’t feel silly, but vindicated. If the recent run-up in bitcoin price proves anything, it’s that the virtual currency is still a dumb investment.

Not only that, but the surge undermines the case for bitcoin’s ostensibly chief purpose, as a medium of exchange. To understand why, we can start by scrutinizing the recent bitcoin surge — or as financial historians might view it, the bubble.

First, the surge is of very recent vintage. From the end of 2013 through January this year, bitcoin as an investment was essentially dead money: Leaving aside some peaks and valleys, it traded in the $800 to $900 range in December 2013, and about the same in December 2016. (I’m using coindesk.com price quotes as a benchmark.) Bitcoin crossed the $1,000 barrier in earnest around the end of January and really took off at the end of March. From then through last week, bitcoin quintupled in price. Since bitcoins were introduced only in 2009, the surge represents only a narrow sliver of a very brief lifespan. Tulips live longer.

What’s more, Friday’s peak was gone by Saturday, when the price fell to as low as about $4,600. That’s a drop of 8% in a matter of hours. Is that significant? Think of it this way: If the Dow Jones Industrial Average fell by 8% in a day, that would be a plunge of more than 1,700 points. Most market participants, it’s safe to say, would regard a one-day collapse of that magnitude as cataclysmic. Since Saturday, by the way, bitcoin has continued to head lower. As I write, it’s quoted at about $4,350.

What bitcoin has that the Romanian currency lacks is a fan base that sees it in ideological terms. These fanatics believe that it’s a viable alternative to what they call “fiat” money, which is currency subject to central bank buying and selling. The central banks, they further believe, are devoted to maintaining inflation, which can only sap those currencies of their value over time.

What they don’t acknowledge, however, is that bitcoin is even more vulnerable to externalities such as government policies. Experts seeking to explain this year’s bitcoin bubble have pointed to factors including a “speculative hysteria” akin to the tulip mania of the 1600s or the South Sea bubble of the 1700s; and more welcoming policies enacted in Japan and Korea. On the other side of the cliff, however, the subsequent fall in prices has been blamed in part on a hostile policy issued by the central bank of China.

The real value of bitcoin may reside not in the price of these virtual coins, but the underlying technology, which is known as the blockchain. Blockchains, put simply, are ledgers or databases that aren’t maintained by a government agency, corporation or other centralized authority, but their community of users. They’re encrypted to prevent unauthorized or secret tampering, which makes them especially secure. Bitcoin can be viewed as blockchain’s proof of concept.

Indeed, bitcoin is facing competition from other virtual currencies purporting to exploit blockchain more effectively. Investors are pouring into the blockchain space, hoping to get in on the ground floor of a technology with broader application for business and government than merely as a way to move money around.

That doesn’t mean those investors have much faith in the market price of bitcoin. As is often the case in financial markets the real money is to be made via investments for which the actual value of the underlying asset is irrelevant. (That’s why brokers prefer to take a commission on every transaction, regardless of its price.)

As I wrote in 2013, bitcoin may well rise in price, but it may also fall — after all, it’s done both, big time, in the last week. As an investor you may end up getting rich. But you may also end up looking very, very silly. Whether the price is $1,000 or $5,000, that will always be true.

Keep up to date with Michael Hiltzik. Follow @hiltzikm on Twitter, see his Facebook page, or email michael.hiltzik@latimes.com.

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