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Why I Didn't Get Rich Off Bitcoin

"...To remain fully invested in Bitcoin would defy even the most basic logic about diversifying away risk..."

Transcript:

Hi I’m Mike Frontera and welcome to another edition of Retirement Insights.

Few investments have had the meteoric rise that bitcoin has had as of late. Nor the attention from the media—or my clients for that matter. I mean, let’s take a second to just be in awe of these numbers, shall we?

As of right now (which will probably be woefully inaccurate by the time you hear this), a single bitcoin is being sold for around $15,000 ($15,235 at last look).

Yahoo finance shows the price at the beginning of the year at just $1017.

That’s a 15-fold increase in price this year. 

(1:00)

Go back just 7 years to 2010 and a single bitcoin cost you just about 20 cents. To put that in perspective, if you had taken $5000 to buy some bitcoin 7 years ago, that $5000 investment would be worth somewhere around $375 million now.

As curious clients have called or emailed me in the last few days, they can’t help but imagine…man…just a small investment in this thing would’ve made me rich in almost no time! How could we have not see such an amazing opportunity coming?! More importantly, is there time for me to still get in?

Let’s start with the first question. Bitcoin has been right under our noses for years. So how do we miss this opportunity to multiply our money by 10’s, 100’s, 1000’s, or even million’s fold? It seems so close;

(2:00)

how could we not grasp it?

Well there are two problems in this particular case. The first is that Bitcoin is an extremely volatile investment. It’s fraught with all kinds of risk. You have market risk, security risk, risk of fraud, and so on. This already makes it an inappropriate investment for consideration for most investors. Bitcoin has no intrinsic value. Unlike a company stock, it owns no assets, it pays no dividends, has no earnings. It’s simply an agreed upon currency whose value is just determined by what people are willing to pay for it – and that can also make it particularly vulnerable to wild swings due to just price speculation.

The next problem is for any one of us to get “rich” off Bitcoin is the average investor’s mentality –

(3:00)

more specifically, the discipline that it would take to stay with an investment like Bitcoin for the long-term.

Let’s just pretend that you were smart enough (or lucky enough) to buy $5000 of Bitcoin at 20 cents each. That would be in December of 2010.

In June of the following year, Bitcoin was already trading at about $18.55 each. That means your little investment of $5000 would be worth $463,750. If you allowed it to climb that high before selling, do you think you might be tempted to sell at that level? $463,000 is truly a life changing amount of money for most people. To let it ride at that point you’d have to be willing to put a very large nest egg at risk.

(4:00)

Let’s assume you hung on. A few months later in November, you check out the price of Bitcoin. To your utter dismay, the price has gone back down to $2.20. Your $463,000 is now worth about $55,000. Let that sink in for a moment.

Now, if you stuck it out, you spent the next 2+ years watching your money triple, get cut in half, quadruple, get cut down to ¼ its value and so on. That’s a tough ride for even the most disciplined investor. Then in 2013, something remarkable happens.

The price of Bitcoin spikes-- from about $13 each to over $1000 at the end of the year.

(5:00)

Your $5000 initial investment is now worth about $25 million.  You’ve ostensibly hit the lottery.

Unless you’re already ultra-rich, your holdings of Bitcoin likely make up the vast majority of your net worth. To remain fully invested in Bitcoin would defy even the most basic logic about diversifying away risk.

And to that, just a few weeks later the price of bitcoin drops to around $300 in February of 2014, bringing your $25 million fortune down to about $7.2 million.

The point is, when the popular media makes a claim that a $5000 investment in 2010 would be worth $375 million at a $15,000 price of Bitcoin today—

(6:00)

it may be true on paper. But the utter recklessness that you would need to have with your own investments makes the odds of that happening infinitesimally unlikely.

Now, Bitcoin has gotten so much recent attention because of its most recent spike in 2017- namely, the nearly tripling of value that we’ve seen just in the last 4 weeks. For that we must consider other investment bubbles and how they are formed. To be fair, one thing that always makes investing a far more difficult endeavor than it seems to be is that we cannot predict the future. With that, I am not saying that Bitcoin will or will not collapse in price like many bubbles have in the past. I only can’t say this because I am not able to see into the future. But I can say that this level of rapid price increase does fit in with other past investment bubbles.

(7:00)

For example, the famed Dutch Tulip bubble of the 1630’s.

At the time, prices rose so high and so fast that a single tulip bulb was as expensive as a home on the canal1. A virtuous cycle began and quickly fed on itself as the point became less about owning a tulip than it was about making money on the rapidly increasing price of tulips.

 

In other words, “I’ll pay $500 for this tulip, not because I think it’s worth that, but because I think I’ll be able to sell it very soon for $1000.” The problem is, as soon as the buyers start to dwindle out and the price starts to come down, there is a very real risk of a selling panic. The virtuous cycle of increasing prices gets attention of more buyers, which further increases prices which gets the

(8:00)

attention of even more buyers and all of sudden that turns ugly. And then many of these bubbles burst with a violent sellout as a new vicious cycle comes in. Suddenly you have falling prices, which lead to people to sell to get out, which pushes the price down further, leading to even more people selling and so on. It becomes a true race for the exits.

 

So….why did I not get rich off Bitcoin? Its price is far too volatile for my purposes. If I hypothetically bought it and my small investment (or in this case “gamble”) doubled or tripled in value, it would become that much of a larger piece of my portfolio. As its percentage of my portfolio grew, I’d have to be willing to gamble with a larger and larger part of my portfolio. And I do not find it prudent to gamble with money that I will someday need to live off of.

 

(9:00)

Do you have questions for me? Let me know! Give me a call me at (518) 612-1060, or send me an email at mfrontera@npafinancial.com. Do you follow me on Facebook? I think that you should! You’ll see videos like this, blog shares and article shares on everything retirement planning. Once again, thank you for joining me. See you next time.


https://www.gsb.stanford.edu/insights/brief-history-financial-bubbles

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