- By Nicholas Kitonyi
The future of the cryptocurrency industry is still clouded with doubt since Warren Buffett (Trades, Portfolio) has been one of the biggest critics of the market. Bitcoin is, by far, the leading unit in the cryptocurrency market and based on Buffett's comments over time, it is fair to say the legendary investor does not value it at all, let alone imagine a bright future ahead.
The intrinsic value of IBM
In 2014, just after bitcoin hit an all-time high, Buffett warned investors to stay away from it, saying it was nothing more than a mirage. In response to a question regarding cryptocurrency by Dan Gilbert, the Quicken Loans founder, he said:
"It's a method of transmitting money. It's a very effective way of transmitting money and you can do it anonymously and all that. A check is a way of transmitting money, too. Are checks worth a whole lot of money just because they can transmit money? Are money orders? You can transmit money by money orders. People do it. I hope bitcoin becomes a better way of doing it, but you can replicate it a bunch of different ways and it will be. The idea that it has some huge intrinsic value is just a joke in my view."
When asked about bitcoin's future on CNBC's Squawk Box, Buffett said, "Stay away from it. It's a mirage, basically."
True to his word, bitcoin lost more than 80% of its value within the following year (falling from more than $1,000 a coin in December 2013 to about $200 in January 2015). After a 12-month hiatus in 2015 however, bitcoin has since recovered to rally close to the $1,000 level.
As demonstrated in the chart above, bitcoin's price appears to have picked up momentum over the last 12 months in a trend that took it to above $1,000 at the start of the year. Unlike the previous rally that took the price to an all-time high, this time around the trend has been more stable, with significant trackbacks and rebounds.
In 2013, the price of bitcoin spiked from a trading price of under $250 per unit to more than $1,000 within a couple of months as traders bought bullishly in a frenzy.
Now, based on the current Bitcoin price and its fluctuations over the last three years, it is safe to say the cryptocurrency has stabilized. As such, it looks as though bitcoin can be billed to have succeeded thus far. This is backed by the fact that several other companies, including BitGold and OneCoin, have launched their own types of cryptocurrencies.
This also shows people are putting trust in the infrastructure used by cryptocurrency companies to generate and manage the exchange of such currencies.
Blockchain, the infrastructure that supports bitcoin and several other applications, looks set to continue growing given the success of bitcoin thus far. Therefore, major technology companies like International Business Machines (IBM) and Microsoft Corp. (MSFT) are looking to capitalize on the current bullish outlook of this technology and, as per recent reports, some are making huge investments in the market.
Blockchain is a new software technology that allows businesses to work together with trust and transparency. The network allows all parties involved access to an encrypted digital record of transactions that cannot be changed.
The technology can be applied in a variety of industries, especially in the financial sector. As of 2016, the blockchain market was valued at $210 million, but is projected to grow to more than $2 billion within the next five years.
Some of the biggest concerns facing bitcoin are issues regarding the security of transactions and its ability to deal with cases of money laundering. If more industries like the banking sector continue to use the same technology used by bitcoin however, this might work out to be a vote of approval for using bitcoin as a currency.
Nonetheless, this still does not answer Buffett's question on bitcoin. His keynote view was the fact that bitcoin is nothing more than a means of transmitting money, which means it is hard for it to gain intrinsic value over time.
However, when you assess Bitcoin as a currency, then we do know that all currencies have a certain value allocated to them. Paper currencies rely on the economic performance of a given country to gain or lose value. On the other hand, bitcoin is not tied to any individual country, which again raises the question of where the value creation comes from.
It is simple. The U.S. dollar does not strengthen against other currencies because of the strength of the U.S. economy, but rather because of the stability investors believe it possesses. As such, bitcoin traders have been betting on the cryptocurrency market believing it can provide the most stable currency in the future. That is why bitcoin has been rallying over the last 12 months.
In summary, Buffett might be right in the end about bitcoin's valuation being unreal. Given the current advances in the payments market and the growing use of internet banking across the world however, it is clear the cryptocurrency market remains to be a potential disruptor with bitcoin at the center of it all.
Disclosure: I have no position in any stock mentioned in this article.
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This article first appeared on GuruFocus.
The intrinsic value of IBM