Counterparty risk makes this an even worse option than buying bitcoin.
Consider many of the antecedent events which might cause bitcoin to implode. How many of them leave unregulated derivatives exchanges up and capable of receiving your "Assign 10,000 BTC puts at $100 to those people who are short them" notice then rounding up a million dollars of actual money to send to you?
I've unfortunately wasted non-trivial time thinking about this, since if it were as reliable as shorting Zynga, I'd be as long puts as my risk tolerance can take.
There can be no options since volatility is impossibly high.. lets take an example. You buy an $850 put with the spot price at $850 and it expiries in 6 months. 90 day realized volatility has been 130% annualized so the black-scholes formula says i have to charge you $300 usd for that option. You make money if BTC is $550 or below in 6 months. Your upside is $550 if it goes to 0 and down side is $300 usd. Still want to trade?
I suspect you could find people willing to sell that put for less than $300. If there's no action at $300, somebody will step in at $200, or $100, or $10. Remember that Bitcoin can only go up, so there's no risk. It's like free money, you just have to be willing to accept a little less free money than the rest of market to get yours.
My sketch of the math back when BTC was $1,000 was that BS had a 1 year put at a $100 strike valued at about a nickel. At that price, assuming availability in quantity and acceptable levels of risk caused by factors other than BTC being worth more than $100 in a year, I'd be buying.
black-scholes also assumes the ability to dynamically, instantaneously hedge with very low transaction costs I recall. The market-maker has to charge even more to recover costs in this case since they cannot dynamically hedge and bid-offer tight nor is the market deep.
You can always take out a bitcoin loan for a standard short. That has no counter-party risk (on your end). Also, Coinsetter is an US startup that will allow shorting and has a lower amount of counter-party risk, IMO.
I'm always interested in hearing your thought process. Any interest in a blog post?
Disclaimer: I am long and think that the asymmetrical nature of the possible payout makes bitcoin interesting as a "bet". I believe it is valuable because the use-cases it can deliver on make it a unique animal, so I would relate the it to the concept of going long on cars vs. horses.
You could sell dollar calls for BTC and cash that out immediately. Opens you up to larger potential losses, but at least this way you're the risky counterparty. :)
When someone expresses the desire to be "long", they mean they want to buy an instrument, rather than sell it. I want to buy puts, which means I profit if the price goes below the strike. Selling puts means I profit if the price stays above the strike. Since my belief is that BTC's long-term value is zero, selling puts is the last thing I'd want to do.
Not bitcoin puts, dollar puts. You have a tuple for each option position (buy or sell, call or put, usd or btc). You wanted to buy btc puts (buy, put, btc). You can create a similar position by reversing any two of those. I suggested, after the correction, (sell, put, usd). Another possibility is (buy, call, usd). Or (sell, call, btc).
Unfortunately any position you buy is going to have counterparty risk, that's why I suggested selling. Well, it's not a real suggestion, just a thought.
The conventional way of doing this is to require option sellers to post margin with the exchange. Bitcoin/USD futures and options contracts would have huge margin requirements.
Anyone know the ratio of speculative investing versus real goods/services transactions on bitcoin?
I ask because it would not surprise me if 90% of all transactions go to people buying/selling against other currencies, which just makes it a zero-sum speculative tool, and with immature market dynamics at that. Zero-sum because it does not pin itself to anything of external value - ie, consumers thinking the economy is going to do well, so they take a significant loan out (increasing demand for USD) to buy a house. Without a fundamental externality like that, I think bitcoin will always just be a novel gambling mechanism, and if we cannot figure out how to make it a legit market then a bad one at that.
Comparing investment with "real transactions" is like comparing kilograms with decibels.
Anyone who holds bitcoins (you, merchant, or bitpay) is a speculative investor. Everyone has different time preference. Someone holds for short time, someone for long. But what ultimately gives Bitcoin any value is all hands willing to hold it right now, this very moment. Only "speculative investment" creates value which you can then transfer in a "real transaction". If you don't want to hold you BTC, you need a merchant, or someone else willing to hold it (yes, speculatively), so you can transfer it. Transfer only happens as a result of speculative desire to hold asset.
Same with dollars. You don't buy cars and houses, but keep some cash balance in a speculation that it'd be more useful this way some day in the future. It's called "reservation demand", and only it gives money value. Otherwise money is worthless pieces of paper (or bits).
Yea, I agree with you. I am trying to make a different point though - there is reserve demand in both dollars and bitcoin, but if the bulk of the pricing set for bitcoin is by transactions founded in speculation (ie, not tied to a physical good or service), then it would seem there is a very limited ability to increase value in the system (aside from new users coming into the market). A currency like USD is different - you can easily and reliably exchange USD for goods and services which increase in value independent of the currency instrument itself. That, and the fact that you can amplify demand by introducing credit, creates a different dynamic, which is why I think the ratio of liquidity created by "speculative" investments versus transactions tied to something external is an interesting indicator.
"if the bulk of the pricing set for bitcoin is by transactions founded in speculation"
Here's the logical flaw. I don't blame you, modern economics are witchcraft and many people are being lied to all the time.
Price of Bitcoin, or Dollar, or Euro does not and never will depend on some transactions out there. Easy proof: I can shuffle coins with 5 of my friends with an incredible speed and it won't matter for you or anyone else. Why? Because transactions are effect, not cause of the value.
Why transaction happens in the first place? Why do you give $2K for a macbook and owner of a macbook gives you a macbook in return? Money by itself is pretty worthless. "You must pay taxes with it" is not a reason. You are taxed with money only because it already has value established via other means.
So here we go: money gives you freedom to buy stuff any time you want. Just by sitting in your account for a day, or a year, or 10 years, it always provides you with ability to buy things any moment. And it's equally true for everyone else in the economy: you have this freedom to buy stuff only because other people believe in the same freedom to buy stuff. That's why they accept money from you in exchange for their product. Everyone wants to have some cash to use it when they like. That's the only value and function of cash. The more hands want to believe in this money and hold it, the bigger liquidity of it. If the supply is fixed, it means the price must grow as number of holders grows.
Whether you actually make these transactions is irrelevant. Of course, if no one is making transactions, then there's probably little value in money, but that's not because of transactions. If no one is making transactions it's either money is hugely valuable like a long-term "store of wealth" (e.g. gold), or because it's shitty money that no one wants (e.g. soviet ruble in 2013). And on contrary, if everyone is making transactions, it's either because money is useful and liquid (e.g. dollar bills or bitcoin), or it's depreciating very quickly (e.g. argentinian peso). In all of these cases transactions are effect of value, not the cause.
Strictly speaking, every holder of money is a speculator. Whether he sold his product, other money, or his kidney is irrelevant. If he is willing to hold this money versus some other money or other forms of property, that's his speculation. That means this money is more useful for him than else at this moment.
Wouldn't this ultimately help stabilize the price of Bitcoin, in part because perhaps Bitcoin bubbles wouldn't reach such tall heights anymore, if a lot more people can bet against them?
I think besides much bigger volume and liquidity (still the main reasons for stability), this is probably one of the reasons why other currencies are so stable, because there's a lot of back and forth between traders - rather than everyone buying and buying and buying, until it comes crashing down hard.
Standard economic theory says yes. Robert Shiller, for example, has noted that one factor that led to the housing bubble in the US is that it's quite hard to short housing.
So yes, in general, an increase in the ability to short a commodity will, ceteris paribus, result in an reduction in its propensity to form bubbles. On the other hand, bitcoins are a bit weird. The obvious uses for bitcoins are basically illegal drugs and evading currency controls, both of which open bitcoin up to significant legal and regulatory risks.
The most obvious use of bitcoin is to enable peer to peer exchanges of currency without banks, that's its purpose. Setting up a website that accepts payments just became vastly easier without the need for PCI compliance or even SSL; that is huge. Digital cash. That it can be used nefariously is beside the point, so can cash.
> The most obvious use of bitcoin is to enable peer to peer exchanges of currency without banks, that's its purpose.
Well, yes. But in general, we as a society like banks. They're big, reputable entities. They're easy to sue if things go wrong, deposits are insured if they go missing, and they're subject to extensive regulation. I'm old enough to remember when ordering stuff online seeemd weird and strange; these days it's routine. And in large part that's because of standards like PCI.
> Setting up a website that accepts payments just became vastly easier without the need for PCI compliance
I know. But PCI isn't a wandering monster that ambushes parties of brave coders; it emerged to solve a very real problem, and it does a pretty good job of it. As a consumer, "look, no PCI compliance" isn't a feature, it's a nightmare. I only want to pay for something with Bitcoins if the process is easier, cheaper, and/or safer than doing so with my credit card. And right now, that's not the case; it's not enem close to the case. Paying for things with my credit card is very easy, quite cheap, and very safe. Today, in the real world, Bitcoin is none of these.
In short, you've identified what Bitcoin is good at, but what we need to do is identify what Bitcoin is better than existing payment systems at. And I don't think "startups too small or lazy to sign up for a Stripe or Paypal account" is an actual niche. Accepting Bitcoins isn't that easy.
TL;DR: You say the obvious use isn't evading currency controls, it's peer to peer exchanges of currency without banks. But evading currency controls is one of the only reasons why you'd want peer to peer exchanges of currency without banks. ;)
Of course that's not the case right now as bitcoin hasn't yet gone mainstream. If you think we as a society like banks, I don't think you see what's coming because you don't see how many people despise banks.
I'm old enough to have grown up pre-internet, so let's not play the age game, I'm no kid.
People tolerate banks, they don't generally like them, they don't like being fee'd to death, they don't generally have enough money to give two shits about FDIC insurance, and pretty much consider bankers the scum of the earth; car salesman are more popular.
Crypto currencies are better payment systems technically, they're distributed peer to peer banking for cheaper, but they aren't deployed enough to matter yet; that will change.
1. Bitcoins already underwent several corrections (last one only a few days ago). These small "crashes" later resulted in longer, more stable phases. These substantial downturns flush out most bubble activity. (Bubbles usually go up until they burst. Bitcoin is generally all over the place. Very un-bubble like. When a bubble crashes, it's pretty much done for. When Bitcoin crashes, it's two weeks of wild swings and then soften on a new baseline.)
2. Bitcoin is an erratically growing commodity / currency. If Bitcoin succeeds long-term, then it's hopelessly undervalued currently (just because of the limited supply). If not, it's not worth anything. Basically it has a high risk associated with it and no safety net or more traditional baseline measure you could work with. This inevitably results in erratic price swings no matter what you do. For instance, the current price is mostly due to China getting into the game. There are still many other countries that are not even on the playing field. No financial instrument could prepare you if the demand rises because another big interest wave comes (like India) and the price needs to find a new equilibrium a magnitude higher.
Considering that Bitcoin got a value increase of 24543% in the past 2 Years, it's course corrections are outright tame.
"When a bubble crashes, it's pretty much done for."
I don't remember the dot com crash being quite as dramatic as that - the NASDAQ peaked in March 2000 dropped down in May and regained about 50% of the losses by July before dropping and climbing to the July level again in October before really dropping.
Edit: Graphs of Bitcoin/USD remind me of the description of start-up business plans from Cryptonomicon "conveniently summarized by graphs that all seem to be exponential curves screaming heavenward". :-)
I guess my point was that rather than have Bitcoin grow 3x within a month because of some big news, then crash to 2x of its height, and then grow back "slowly" to where it was within another 1-3 months, it could just grow more smoothly to begin with, and even if there were some big news in a row, there could be a lot of people betting against it and having it grow perhaps only 50 percent overall that month, and then another 50 percent the next month, or whatever.
Other currencies are stable because they're actively managed by central banks, there's huge liquidity, and the currencies aren't inherently deflationary. Bitcoin has none of these things going for it. It's not a currency, for the most part, it's an instrument for speculators.
Other currencies are (mostly) stable because they have a stable demand. For example, demand for USD is not increasing to tenfold over a year randomly.
Bitcoin is a very young currency / commodity and needs to find some form of equilibrium first. This will be reached once all people who potentially want to use Bitcoin do. Until then, each influx of new users will require a price correction as the supply is fixed.
On top of that, other currencies have flexible supply as well. Banks create and destroy money based on demand, because bank loans are essentially newly created money (and paying back a bank loan means that the money is destroyed).
1. Money is created by normal and central banks, which are somewhat different types of organizations. Central banks can directly "print" money while banks can buy IOU's for future money (loans).
2. Now the difference that is created with the loans is indeed payed back and increases the money supply. It's not destroyed.
Here is a chart of money supply of USD [1]. As you can see, the amount of money in existence is increasing continuously. It's one of the core elements that influence inflation.
Great explanation. I would add that a written-off defaulted loan does destroy money. Hence the need for the fed to create money when the private banks destroy it.
MZM from St. Louis FRED: research.stlouisfed.org/fred2/graph/?chart_type=line&s[1][id]=MZMNS&log_scales=Left
Actually, I would say it's the other way around. A bank loan is like "anti-money": it is created at the same time as the new money, and when the money and the loan a.k.a. "anti-money" meet again, both are destroyed.
When a loan is written off, the loan is destroyed without money being destroyed at the same time. That is, writing off a loan leads to what is effectively (in hindsight) net money creation.
That actually makes a lot of sense when you think about it: Writing off a loan means that the bank gives out money without the money being paid back. Of course there's going to be a net plus of money in circulation afterwards, because the "paying back" part is missing.
I agree that central banks also create money, but I'm afraid I can't agree with how you frame the rest of your reply. Let's look at it from a balance sheet perspective.
When a bank creates a loan, it adds an asset and a liability to its balance sheet. The asset is the loan (that is, the bank's customer's promise to pay back the loan), while the liability is newly created money in the customer's bank account.
The money supply is defined as the sum of all money in existence, and this includes money in bank accounts. That is, when a loan is made, the money supply grows.
When the loan is paid back, the reverse happens and the money supply shrinks again.
And yes, the amount of money in existence is increasing continuously, but so is the amount of outstanding bank loans. In other words, the evidence you present is perfectly compatible with what I'm saying.
I'm curious as to why you (and other people) call Bitcoin a "currency"?
Even on the frontpage of http://bitcoin.org/en/ it's defined as an "innovative payment network and a new kind of money" and the word currency doesn't appear anywhere.
Do you also consider a cellphone to be a "phone" in the traditional sense. Could phones browse the web, edit documents, take photos, check email, etc. 20 years ago?
So what's the difference between 'money' and 'currency'? If you start thinking about what either of these words mean exactly, and then start researching it -- you'll discover that even economists aren't sure and there are several competing theories of what 'money' actually is.
'money' is the more complicated concept. If bitcoin is 'money', then whether it's 'currency' or not mostly just depends, I think, on whether you want the definition of currency to include digital certificates or only physical objects. Not a very interesting question, just a matter of definitions. Now, what 'money' is, that's an interesting question.
> So what's the difference between 'money' and 'currency'?
Uh-oh don't get us started on that one, that's a can of worms!
Used to be, way back in the past, "money" was "coin or bullion in your bank's vaults" and banks' receipts for "money" starting circulating -- hence, we have the separate word currency.
Nowadays, I suppose the distinction is largely lost, other than "currency" now implicating different jurisdictions -- EUR and USD are considered different "currencies" but both are considered "money" by and large.
Money is spent or lent or hoarded, currency circulates. One necessitates the other.
Whether "hard" or "soft", in all history and today both are certainly always "credit" -- a (rightly or wrongly) trusted claim to some future consumption of some future production. Whether the "money" is paper or metal or digital. If we swap a banana for an apple, a trade is completed and settled, no money was needed. But since most of apple sellers are not also banana buyers "right here and now", this purely mental value-association, regardless the medium it's recorded on, is needed and used and traded in-place with ease and the world mostly works! Money hence is always a debt for future trade settlement -- completion of exchange.. (Whether banks should create new money for all their lending is another question, whether all savings of people should be in ambiguous claims on future production is another question. Doesn't change this most fundamental nature of "money".)
I don't really buy that argument. Yes, central banks can print more money, but it's not like they can print 30 percent of the existing money within a year to compensate for the 30 percent rise in demand for the dollar. But again, I think huge volumes and the law of numbers play a big role here, because I don't think it's possible to see a 30 percent rise in dollar demand within a year anymore, while that's very possible with Bitcoin (for now).
The problem with predictious is the same as the author identified unfortunately - the currency used is bitcoin, so if you're right and the price falls, you could still lose money.
I would love if one of the major european bookies (e.g. Betfair, Bet365, William Hill, Paddypower) would let you place bets on the price at a given time in the future, in your local currency like euros. Bet365 already let you do this in major currency pairs, as do other bookies:
As I pointed out in another thread yesterday, the problem is potentially even worse than just a price fall; if Bitcoin falls sharply enough (and/or governments wade in to restrict Bitcoin use) most of these startups with a Bitcoin-based business model won't survive to pay up.
I'd have thought the specialist financial spread betting firms would in theory be best-placed to be a trustworthy shorting option for Bitcoin bears.
Yeah what you're describing is a well known phenomenon in financial markets called counterparty risk[1]. Those betting against the subprime mortgage bubble prior to 2007 for example feared that those institutions accepting their exotic CDS bets would actually go out of business when the subprime bubble popped[2], and the bets wouldn't be realised.
It's a sign of immaturity of the bitcoin economy that there's no trustworthy effective bitcoin shorting options- even if you don't wish to speculate, but because you wish to hedge your exposure to bitcoin volatility (say you're a large ecommerce player, with significant bitcoin holdings- you're effectively long bitcoin - and you don't want those holdings to halve in value overnight).
This is what I've found to happen with stocks. Being short is bloody expensive, the upside isn't that big (unless you're long some underpriced insurance) and everyone is basically against you, for ages. If shorting/going long had the same upside/downside you'd have a much saner world. But that ain't the world we live in, and guys who want to go short, like me, just go into straight cash and treasuries (because strong governments have guns/monopoly on taxes) to wait it out until prices to return to sane levels.
This leads to a curious selection bias where only the craziest are present in the market (the rabid masses I like to call them) and they bid up everything to insane levels, while the sane just sit it out. This leads to bubbles of much greater variance than if those who currently wait out bubbles could reasonably bet against global stupidity.
Instead, I'm sitting on tons of cash while equity is overvalued throughout the world, and blowhards are plowing their life savings into computational fiat (think about it).
Puts solve the problem of the upside not being that great.
They introduce a total loss potential, but you also can't lose more money than you 'invest' into the put contract. They also obviously introduce a timing element, that is arguably the most difficult variable for amateurs - it not being enough to just be right that X will fall, but that it has to fall by enough by X date as well.
Storing and guarding gold is a pain in the ass. Transaction fees for tiny positions in the entire Russell 2000 index would be prohibitive. These are the kinds of things people use ETFs to buy. Why would I want to buy into an ETF that holds BTC rather than buying BTC myself, is it easier to write options or loan into short interest that way?
Classical Market making is probably the safest way to profit from bitcoin as the spread is so damn high. Good luck finding a hedging instrument though.
Slow transaction speeds leave you with inventory for way too long (the bane of market makers ) and as you have no correlated instruments you can't even hedge the inventory you have.
Funny! Try skipping to the concluding sentence or paragraph. Or just reading the first sentence out of each paragraph. That's how I skim the long, boring stuff.
Shorting Bitcoins would be a terrible idea. I hate Bitcoin, and expect it to eventually crash, but if you nakedly short something and it goes up in the meantime (which BTC could) you can get whacked with margin calls and lose money even if you're right. That happened to a lot of people who shorted the Nasdaq (at, say, 3000) and tech stocks in the '90s. They were right, but they still lost their shirts.
It's that old line that the market can remain irrational longer than you can remain liquid.
In betting against a bubble, you're not placing a bet that the underlying assets are over-valued. You're placing a bet that something will pop the bubble in the timeframe you can afford. Essentially, you're not betting against the bubble, you're betting on the pin.
With put options, you're betting on a timeframe. You make a profit if the price drops below a certain level by expiration.
With naked shorting, you're betting on it not getting above a certain level (the level at which you face margin calls you can't meet). It could go up 10x tomorrow and kill you.
Your description of 'naked shorting' isn't accurate. Options are derivatives based on an underlying (BTC in this case). Short selling is the process of borrowing the assets you would like to short (for a fee) from another party and selling the them effectively leaving you with a negative position. If you decide to cover your position or if the lender demands you return the loaned instruments, you will have to buy back the assets. This is the standard process of shorting and you will usually not wait to cover until you get a margin call from your broker, but do it if the trade doesn't work out. 'Naked' short selling is the same process, except you never borrow the assets in the first place. You effectively sell something that you don't have. This is possible if don't have to deliver the sold assets immediately, but it will eventually lead to a 'failure to deliver'. This practice is usually illegal and your broker won't let you engage in it.
I expect bitcoin to crash as well, but I'm curious, why do you hate it? As much as the crypto-currency fans can be annoying, I'd rather see them get rich on speculation than see the credit industry keep its oligopoly on online consumer payments.
Consider many of the antecedent events which might cause bitcoin to implode. How many of them leave unregulated derivatives exchanges up and capable of receiving your "Assign 10,000 BTC puts at $100 to those people who are short them" notice then rounding up a million dollars of actual money to send to you?
I've unfortunately wasted non-trivial time thinking about this, since if it were as reliable as shorting Zynga, I'd be as long puts as my risk tolerance can take.