Tag: Glen Baker

The Investment Merits of Bitcoin, Part 2

Click here to read the first part of this article.

In the world , as we know it today, money is no longer backed by anything tangible , such as a commodity. The system of fiat currency relies on the trust that everyone needs from their bank and the financial system overall, to look after their money and make it accessible. However, the Global Financial Crisis (GFC) imparted a shock to the foundations of this 35-year structure, as a lot more attention was paid to “de-risking” cash. Simply translated, this meant not having a current account or assets under custody with a bank that may fail. The focus on return on money for a while changed to the return of money! And it was in this environment that a white paper entitled “Bitcoin: A Peer-to-Peer Electronic Cash System” was released, authored by “Satoshi Nakamoto” – the name is in inverted commas because no one really knows anything about the person/group!

At this point, trying to explain the technicalities that seem to engulf the whole concept of cryptocurrencies, whilst trying to keep it simple and avoid jargon, has tripped up many an author, both disciples and non-believers. So rather than do that, I will do my best to summarise the salient points. Bitcoin, and cryptocurrency generally, has three pillars or reasons for being.

  • It is peer-to-peer, person-to-person. It bypasses intermediaries and regulators. Therefore, it is “trustless,” an important term in the Bitcoin bibliography and circles back to people’s declining confidence and trust in the financial system, banks, intermediaries etc., after seismic events like the GFC.
  • It is an alternative exchange network that does not exclude anyone based on rules like nationality, financial standing or regulators’ parameters. It is, therefore, decentralised, again a term of regular use and importance, often referred to as DeFi, an abbreviation for Decentralised Finance. “Democratised” is a term that could be used for a similar description.
  • It is secure. How this is done is by cryptography and the proof-of-work concept. Cryptography is essentially the conversion of plain text (ordinary information) into unintelligible form. This is encryption and underlies the process of securing the internet, social media apps, etc. Taking this security one notch up, three cryptographers by the name of Diffie, Hellman and Merkle wanted to solve the problem of sharing secrets in one place (imagine a lockbox) without sharing one public key. This became known as the Diffie Hellman Key Exchange and underpins how each individual user has a unique code for their Bitcoin activities.

There are three ways that an individual can receive Bitcoin:

  1. Buying it – perhaps on an exchange, for example, of which there are now many.
  2. Getting paid for goods or services if the buyer has Bitcoin and is willing to use it in this way.
  3. Mining for new coins.

In the Bitcoin system, the mining process is directly linked to how transactions are executed. To transfer and store bitcoins, the user typically needs to download software that installs a digital wallet. This software generates a “public address” for the wallet, which is disclosed to anyone who wishes to transfer bitcoins into the wallet. This software also generates a password known only to the owner of the wallet, then used to gain access to Bitcoins. In simple terms, anyone can transfer bitcoins into your wallet; only you can take them out and use them.

To transfer Bitcoin from wallet A to wWallet B, a transaction will be generated which includes critical “public” information, such as details of the wallet, date and time, and certain unique identifiers to eliminate the possibility of duplication, and double spending the bitcoin etc. This is then broadcast to the Bitcoin network, to be validated. This authentication is carried out by other bitcoin users and is facilitated on the data structure upon which Bitcoin and other cryptos are built, which is known as Blockchain.

Each pending transaction appears as a set data stored as a block in the Blockchain structure. This must be checked to authenticate each transaction within that block. Once verified, the transactions are executed, the block is sealed off – effectively added to the chain – and the data it contains can never be altered. This distributed ledger is not owned by anyone and is autonomous in nature; there is no authority that can lay legitimate claim to it. Here we can close the loop on DeFi, disintermediation and security.

There are now more than 10 000 different cryptocurrencies in existence, with Bitcoin remaining the “big name”. Many factors and hypotheses can explain the popularity and rise of cryptocurrencies. There is no doubt that “counterculture” is high on the list—the triumph of being able to bypass financial intermediaries and democratise finance.

But how do we stack this up and reach a conclusion if Bitcoin / Cryptocurrencies are a good investment or not?

  • There seems to be no doubt now that cryptocurrency should be recognised as an asset class. It has received an incredible amount of press, hype, and a growing number of investors.
  • It falls into the category, at the moment, of a speculative asset. The volatility in the price of Bitcoin as the “grand-daddy” of the family is proof of that.
  • It is very hard to value. There is no fundamental underpin that I can see. It is willing buyer, willing seller valued.

If its permanent existence is reliant upon the financial system’s failure or the demise of the US$, then I would not be attracted. If the argument were more based on the fact that Decentralised Finance is coming, and the advantages of democratising the system are very apparent and easily reachable to most, then perhaps it does warrant a place in a portfolio …. But not for retirement purposes!


The Investment Merits of Bitcoin, Part 1

The topic of Bitcoin has been one that has emerged with much more frequency over the last two to three years. There is, perhaps, a small element of general interest in how the subject is then navigated in the conversation. Questions like “what on earth is it,” “apparently it was invented by some Japanese bloke,” and “can I get a book on it from Exclusive?” However, the most dominant theme in any discussion centres on the financial aspect. “A friend of mine has made a truck ton of money on Bitcoin”, “have you seen the price of Bitcoin, it’s doubled in the last month”, and “why do you need to follow the market, just look at the bitcoin price”.

In my 30+ years in the investment industry, I have never seen anything like Bitcoin and the hype and aura around it. Markets are dynamic and change every day. There are new fads and products, themes and theses, events and stories, on a seemingly more regular basis. But Bitcoin seems to levitate above all these daily passings.

I have clear memories of the Global Financial Crisis (GFC) in late 2008. Working on the equities desk at a major SA bank which was in a joint venture with a prestigious global investment bank, we were one step removed from the carnage going on in London and New York. However, if our offshore partner had gone to the wall (which it nearly did), there would have been an impact, a sizeable one, trust me. In all of this, the explanation of the problem sweeping the world’s financial system contained investment jargon and acronyms that made it indecipherable to the man on the street. From my experience in the markets, I sort of knew, at least the theory, around Collateralised Debt Obligations (CDOs), Collateralised Mortgage-Backed Securities (CMBSs), and other derivative weapons of mass destruction (as Warren Buffet called them). Bitcoin – the truth is that knowing pretty much zero, I have turned my shoulder. Being in a Financial Advisory business and managing clients’ hard-earned money, the obvious question is, what would my advice be if asked about the investment merits of Bitcoin. And to supply that answer, I would need to understand why, and more importantly, how, I had reached my conclusion.

A history of coins, the Gold Standard and its impact on currencies

There is evidence that the first gold coin was moulded in 1500 BC in Egypt, known as a shekel, and used as a medium of exchange. In the book, The End of Money, the authors go on to explain how coinage was introduced to Europe in 1066 by William of Normandy (remember the battle of Hastings?), and over time formalised into the British system of pounds, shillings and pence. In the late 18th century, the Coinage Act was passed in the US, establishing a bimetallic silver-gold standard which, in one form or another, would form the foundation of the monetary system for nearly 200 years.

Countries through the developed world adopted the gold standard to settle debts in a global economy struggling to arrive at any other standardised form of valuing different nations currencies. This mechanism required sovereign governments to hold gold against any currency (money) created, and its value would be based on the weight of gold held. However, World War 1 saw the gold standard suspended as countries had to print more money to pay for the war. The wall street crash of 1929 and the Great Depression that followed saw the gold standard buckle entirely, as people exchanged US$ for gold and hoarded it, as banks around them collapsed. In response, in 1933, the US Government made it mandatory for citizens to return their gold and coins in exchange for dollars. This meant that as World War 2 concluded, the US’s gold reserves put them in a position of strength. The Bretton Woods agreement of 1944 thus decreed the US$ would be pegged to the gold price, and all other currencies would be pegged to the dollar. The gold standard was therefore replaced with the “dollar” standard”. A few countries had reservations about the supremacy the US dollar was bestowed with, and when dollars held by other countries began to exceed US gold reserves in the early 1970s, some of them (including France, Germany, UK, Belgium, Netherlands) came to Fort Knox to remove the gold being held on their behalf. There is a legend that the French President at the time, Georges Pompidou, ordered a warship to enter New York harbour to retrieve his country’s gold and bring it back to Banque de France! A temporary suspension of the dollar’s convertibility to gold was put in place, and in March 1973, the Bretton Woods system collapsed. Thus began the system of floating exchange rates (fiat currency) that exists today.

In the next edition of the Beacon, I will discuss The fiat currency world, the GFC, and the Bitcoin cryptocurrency’s emergence, as well as the mechanics of Bitcoin (as best a non-technician understands), and then….. some thoughts on what the hypothetical future perhaps holds.

Click here to read the second part of the article.


Personal Share Portfolios

Investing by buying shares, generally listed on a stock exchange, has been a popular and well-used wealth-creation strategy for many years.

The investment industry and landscape have definitely become more advanced as time has gone on, in line with
the breakneck speed that the world is evolving in many spheres. This often causes some anxiety for investors who
put their life savings and future nest eggs to work in the stock market.

Investors now have a kaleidoscope of shares to choose from that allow them to participate across geographies,
economic sectors and commercial themes. These decisions can be implemented and changed, in real-time, at costs
that have been reducing rather than increasing due to technological efficiencies and competitive forces.

However, the fundamental tenets of owning a portfolio of shares remain intact, and the main benefit over time is capital growth. Owning shares in companies and brands means that the investor effectively shares in the profits
that they make and receives dividends that they pay. The criticism that is often used centres on how volatile equity
markets are. I would argue that volatility (how much a share price moves in value) is not the real risk investors face. The
real risk lies in permanent loss of capital and returns not keeping pace with inflation. Equity investments housed in
well-constructed share portfolios have proved over time they are a superior way of accessing capital growth and wealth creation

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