Hey Guys,
I hope everyone is doing well. I know a lot of you are currently struggling with dissertations and the like and wish you all the best.
It’s been a busy few weeks, but the highlight has got to be my sister going out on a Sunday bender, on the eve of my mother and brother’s birthday. She was meant to bake the birthday cake, but found herself side tracked by the wonderful 5am streets of Cardigan. I came downstairs on the day of the Birthday, to find a stressed and tired Dad trying to figure out how cakes are built. He didn’t sleep very well out of the sinking guilt that he hadn’t done enough for his wife’s Birthday - and in fairness, he hadn’t done anything.
But all was well in the end. I helped my father bake what was apparently the first cake of his life, and we had an intense go-kart race in which an infuriated mother was lapped many times, and an overly confident father came 4th. This was followed by a lovely picnic prepared by a now guilt-free father. Happy Days.
Anyway, this week I thought I’d dive into the history of Bitcoin, so that we can all continue to understand this crazy asset a bit better. No beginners section this week as I believe this is useful for all.
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A sidenote to the older generation, if a word or words is underlined, it means it is a link which you can click!
A Brief History of Bitcoin
If you are like me, you weren’t in Bitcoin from the very early days, and probably have little knowledge of Bitcoin’s history.
As investors, it is good to understand the asset we are investing in as much as possible. Knowing the history of the asset builds on our understanding, which is why we are diving into this topic today.
I’ve split the history of Bitcoin in 5 parts:
Pre-Birth
Era 1: Peer-to-Peer
Era 2: Proto-Usage
Era 3: Retail Arrive
Era 4: Institutions Arrive
The Eras of Bitcoin
Pre-Birth (2008)
Amid the chaos of the 2008 financial crisis, on the 31st of October, a paper titled ‘Bitcoin: A Peer-to-Peer Electronic Cash System’, was published on a mailing list for those interested in cryptography, with ‘Satoshi Nakamoto’ as the author. Satoshi never revealed any personal information, and to this day, his identity has never been confirmed.
I say ‘his’, because his profile claimed he was a 37 year old male, who lived in Japan, and ‘Satoshi’ is also primarily a male name, of Japanese origin, that means Intelligent History. For those interested, Nakamoto, means ‘central origin’ or ‘one who lives in the middle’. Many have speculated on his identity, and a few have claimed to be him, but there has been nothing with conclusive evidence.
The paper introduced Bitcoin as a decentralized money without the need for a central bank or any intermediaries. Bitcoin can be ‘sent’ to and from users via the bitcoin network, a peer-to-peer network in which transactions are processed by miners, authenticated by nodes and all the transactions are stored on the blockchain.
Like a decentralised bar tab for anyone who wants to join in, except instead of pounds, everyone is keeping track of transactions in Bitcoin.
A revolutionary idea, as every digital transaction traditionally goes through a central authority. This brings in effect a cash-in-hand transaction online.
A message from 1984:
The Bitcoin whitepaper is a must read, but some parts are quite confusing, so here is a good summary that covers most of the important parts: FreeCodeCampWhitepaperWalkThrough
Era 1: Peer-to-Peer (est. 2009-2010)
On the 3rd of January 2009, the first Bitcoin block was mined by Satoshi Nakamoto and the code was released as open-source software on SourceForge.
Within the first block, called the genesis block, was the text "The Times 03/Jan/2009 Chancellor on brink of second bailout for banks" citing the following article:
The reference has been interpreted as a derisive comment on the instability caused by fractional-reserve banking.
For the first year and half, Bitcoin didn’t even have a dollar price as exchanges didn’t exist yet. The users consisted of cypherpunks and other enthusiasts, using the network purely on a peer-to-peer basis, mainly out of academic, ideological, and technical interest.
Unless you were a techie enthusiast, it was pretty hard to get your hands on some Bitcoin, as the user experience was worse than craigslist. Here were some of your options:
Download a full node and mine some Bitcoin on your home computer.
Find someone to transfer some to you in exchange for cash.
Take part in niche discussion boards.
Faucets were made, like the one below, to help distribute Bitcoins, where you could get 5 Bitcoin for free simply by inputting your address:
Then in 2010, your buying options were opened up slightly as a website for exchanging Magic: The Gathering trading cards launched a service for bitcoin trading. The exchange was called Mt. Gox, and was founded and run by a programmer called Jed McCaleb, who later co-founded Ripple and Stellar.
It looked nothing short of sketchy, but in all fairness, it was still 2010.
As the network was still very young, Satoshi Nakamoto was also still active during this time, discussing things with the community and making software updates, offering his opinions and advice.
To summarise, Bitcoin was not on most people’s radar, and it was difficult to buy.
Era 2: Proto-Usage (est. 2011-2014)
By this point, Satoshi Nakamoto disappeared, and the bitcoin network became self-sustaining by the rest of the community.
Usage of the network started to pick up, but not in the best of places. In 2011 the online marketplace Silk Road was founded, which allowed people to buy drugs online using Bitcoin. People began experimenting with the usage of Bitcoin as a censorship-resistant payment method for the dark web, similar to the early usage of pagers, or ‘beepers’, by drug dealers when they first came out.
"Beepers," says Los Angeles Deputy District Attorney Curtis Hazell, "are the single most common tool of the drug trade."
This gave the asset a lasting reputation of being used for illegal activities, despite the fact that today less than 1% of Bitcoin transactions are used for illegal purposes (this is lower than most estimates of the percentage of fiat currency transactions that are used for illegal purposes).
Like any powerful technology, Bitcoin can be used for good or ill.
Around the same time, Wikileaks began accepting Bitcoin, because they had been shut off from their other payment channels, such as PayPal. This was much to the dismay of Satoshi Nakamoto who warned against this in one of his last forum messages earlier in 2010.
"The project needs to grow gradually so the software can be strengthened along the way. I make this appeal to WikiLeaks not to try to use Bitcoin. Bitcoin is a small beta community in its infancy. You would not stand to get more than pocket change, and the heat you would bring would likely destroy us at this stage." - Satoshi Nakamoto 2010
Bitcoin was still very small and vulnerable at the time, and he feared this kind of negative attention could be enough to end the network.
In 2011, the Mt. Gox exchange was sold to a French programmer called Mark Karpeles. Trading really began to ramp up, and as the value of Bitcoin continued to rise, more exchanges started to launch. Kraken was founded in 2011, and Coinbase in 2012, alongside many others who did not survive. Before long, Mt Gox was the largest Bitcoin exchange in the world at the time, handling over 70% of Bitcoin transactions.
The emergence of exchanges made it easier to buy and sell Bitcoin, but there was still a lot of friction using them at the time. Use interfaces were pretty challenging, and it was hard for many of these early companies to get bank connection due to the perception of Bitcoin being mainly a criminal thing.
Bitcoin was starting to get a bit more attention, and the first unlikely discoverers from a more traditional background, happened to be the Winklevoss twins. You probably know of them for the 2010 hit ‘The Social Network’ as the guys who claimed that Mark Zucc. stole the idea of Facebook from them. They heard about Bitcoin from a guy at a party and were soon sold on the idea of magic internet money. They used some of the proceeds they won from the Facebook court trial and amassed a Bitcoin stack, worth $10 million which was around 1% of the entire supply at the time. This was the biggest single investment into Bitcoin at the time and although they were initially ridiculed, they ended up becoming the first Bitcoin billionaires and went on to found the crypto exchange Gemini.
It’s a fascinating story, which you can learn more about from Ben Mezrich’s easy to read book, Bitcoin Billionaires, which I recommend.
Many altcoins were also created to try and get in on some of the action. Among those that are still around today, the only well-known one is Litecoin.
Towards the later stage of this era, it became uneconomic to mine Bitcoin on a home computer as the first application-specific integrated circuits ‘ASICs’ were made specifically for Bitcoin mining. This was the beginning of Bitcoin mining becoming a specialised niche business operation
The more computational power that is mining Bitcoin, the harder it gets to mine Bitcoin. All miners are drinking from the same milkshake with different size straws. The more computational power you have, the bigger your straw. As better circuits were made for Bitcoin mining, bigger straws entered the milkshake so that home computers were no longer powerful enough to make it economically viable to mine Bitcoin.
Then in 2013, the Silk Road was shut down by authorities, and its founder Ross Ulbricht was convicted with more than two life sentences in prison. Mt. Gox was also plagued with problems and suffered a huge hack in which they lost 850,000 of their customers Bitcoin. Trading was closed in 2014, and Karpeles was later convicted and sentenced to prison.
The 2013 bull run came to an end and with these setbacks, many people thought Bitcoin was dead. It entered a long bear market and fell 86%, as most investors lost faith in this new technology.
This was technically the second bear market. In 2011 there was a bear market which lasted just under half a year and price fell 93%.
Era 3: Enter Retail (est. 2015-2017)
Despite the setbacks and the huge drawdown, the Bitcoin network refused to die. Instead, Bitcoin started to gain attention from early retail traders, and this time, Bitcoin was much more accessible.
The larger exchanges were now able to maintain steady banking relationships, and serious security standards were put in place by cybersecurity professionals. Along with the rest of the web, the user interfaces were also improving, making it less of a puzzle to buy Bitcoin, and lowering the barrier to entry.
Some of the early hardware wallets were also created, with the launch of the famous Ledger Nano S in 2016, which allowed users to easily self-custody their Bitcoins, instead of leaving them on exchanges. Previously you would have to run your own full node to do so.
Yet despite it becoming easier to self-custody your Bitcoin, the general trend was that the amount of Bitcoin being held on exchanges steadily increased. This was most likely due to the fact that exchanges were getting bigger, more secure and easier to use, whilst hardware wallets were still quite new, so the majority of new participants probably opted just to use an exchange.
In addition to the growing retail attention, early venture capitalists (private funds that invest into early-stage projects) began providing serious capital to Bitcoin and digital asset start-ups.
One of the biggest events during this period was the ‘Blocksize Wars’, also known as ‘Fork Wars’. There was a huge debate within the Bitcoin community as to whether or not to increase the size of a Bitcoin block. Increasing the block size means you can fit more transactions into each block, making sure that the blocks never get saturated, so that the waiting time isn’t increased. It also means fees don’t increase in a ‘bidding war’ to get into the current block. The drawbacks to this are that it increases the hardware and bandwidth requirements to run a full node, which increases centralisation risk. If it is too expensive to run a node, general retail like you and me will be priced out, leaving the institutions with greater control over the network. It also means Bitcoin undergoing a hard fork, which small blockers argued was too risky.
Less Users Running Nodes = Less Decentralised
Unsurprisingly, most big companies were in favour of increasing the block size, while the majority of users were not.
Up until this point, no one really knew who had the majority of the control of the network. Was it the core developers, or the miners, or the nodes, or simple users?
The miners were convinced they had the power and at one point the larger blocks size team consisted of 58 companies located in 22 countries, and controlling 83.28% of the total hashing (mining) power
Yet despite all this, the users won.
To oversimplify how the users won; if you have 2 almost identical blockchains, miners are incentivised to mine the network which has the greatest value, as they get more rewards. The network with the greatest value is the network with the greatest amount invested into it.
Bitcoin cash ‘BCH’ was the final attempt by the large blockers to create a new Bitcoin with a larger block size. When it hard forked away from Bitcoin, most of the network remained with the original Bitcoin. The majority of users did not sell their original Bitcoins for the new BCH, and many in fact just sold the new BCH for the original Bitcoin. BCH never quite gained more value than Bitcoin, so most of the miners just stuck with mining the original Bitcoin. Overtime, Bitcoin Cash continued to lose value against the original Bitcoin, and today has less than 1% of the market capitalisation and hash rate of the original Bitcoin.
This era came to its end with the ‘ICO’ (initial coin offering) bubble. Tons of altcoins were born, as teams raised quick capital by selling tokens to retail investors. Naturally, this resulted in hundreds of scams, as prices were pumping primarily based on hype, and some of these coins were subsequently sued for selling unregistered securities.
Then as the bubble burst and everything came crashing down, people once again proclaimed Bitcoin and the rest of the crypto industry as dead, and Bitcoin entered another bear market.
During the 2017 run up, the number of articles claiming Bitcoin as a scam or dead was particularly dense (each red dot being a negative article).
Era 4: The Big Boys Arrive (est. 2018-present)
Despite what the Bank of England may have hoped, crypto was not dead, and in fact was preparing to come back stronger than ever.
During Era 3, forward thinking institutional managers started to quietly take notice of Bitcoin and had begun researching the industry. During the end of that period, and then mainly through Era 4, they started building institutional-grade custody solutions.
Firms like Fidelity and NYDIG allowed corporations, insurance companies, pension funds, large investors, and other large pools of capital put millions or billions of dollars into Bitcoin. By this point, Bitcoin was also large and liquid enough to absorb these institutional-scale investments.
Venture capitalists also remained busy, funding companies that were building other tools like collaborative multi-signature custody solutions, mobile wallet apps, crypto-native financing companies, bitcoin rewards cards.
During this period, the Chad, Michael Saylor enters the scene.
MicroStrategy (MSTR) held a lot of cash in their treasury, and due to the immense printing seen during the covid crises, Saylor was looking for an inflation-resistant asset to put that cash into. After much research, the company decided Bitcoin was the best option and they went all in, becoming the first publicly traded company to add Bitcoin to their balance sheet.
Less than a year later, Tesla put $1.5 billion Bitcoin onto their own balance sheet, which signalled to the world, that Michael Saylor wasn’t crazy.
Then one of crypto biggest exchanges, Coinbase (COIN) went public. This was followed by a Bitcoin mining ban in China, which resulted in a huge shift in hash rate moving mainly over to North America and a few other countries, as miners moved elsewhere.
Miners also grew considerably in size and many of them went public. This opened them up to considerable funding, which has allowed them to HODL much of the mined Bitcoin.
The Block (SQ), previously known as Square, a fast-growing company creating alternative payment system solutions, began incorporating Bitcoin as a key part of part of its business plans. With Jack Dorsey (twitters founder) at the helm, they formed Square Crypto, an independent team dedicated to contributing to bitcoin open-source work. This team went on to create tools that made it easier for companies to access the Lightning Network for payments.
The Lightning Network itself was only launched in early 2018, as a second layer on top of Bitcoin. It allows users to make bitcoin payments instantly and with extremely low fees. It reached significant liquidity by mid-2021, and in September 2021, El Salvador the Lightning Network enabled them to adopt bitcoin as its second legal tender, alongside the dollar. More recently, Strike announced they would be integrating the lightning network into large payment processors including Shopify, Blackhawk, and NCR. We all know who Shopify is, but Blackhawk and NCR are less well known. NCR is the largest Point of Sales company in the world, and Blackhawk is one of the largest alternative payment providers in the world. This will allow customers to use the lightning network to buy from places like McDonald’s (MCD) and Walmart (WMT) and all sorts of other places since they generally use these payment handlers.
It’s only a matter of time before ‘…but where can you spend it…’ will be a question of the past.
In addition, numerous Bitcoin and crypto ETF’s were launched around the world, although, the only ones to be approved in the US, were future’s backed ones, which doesn’t buy actual Bitcoin.
A few macro analysts also began covering Bitcoin and digital assets in eras three and four, like Lyn Alden and Preston Pysh, and were invited to give presentations to Wall Street firms and other institutions, to boost their knowledge of the industry.
We’ve also seen the retail sentiment shift around Bitcoin, with more automatic recurring purchases (DCAing). Retail is beginning to view Bitcoin as something to hold rather than to trade, with more of the speculation shifting toward altcoins. There was also a major trend reversal in the amount of Bitcoin on exchanges:
Moving onto the altcoins; huge amounts of venture capital funding has been pumped into the altcoin space, with experimentation on different speculative use-cases. These industries started to reach into pop culture which has resulted in a significant degree of mainstream adoption. Which altcoins will survive in the long run is still very unclear, so the speculation continues.
With this adoption of the Digital Asset industry, countries have had to articulate their policies, so that companies knew whether or not they could participate. We’ve seen many countries flip-flop on decisions. Initially hostile countries faced pushback from the private sector, forcing governments to take a more open position on digital assets. I think countries are beginning to realise that if they ‘ban’ crypto, they simply ban themselves from crypto.
India and Russia have been the biggest flip-floppers, but over time, both have now shifted towards regulating and accepting digital assets. Thailand also proposed a crypto-specific tax and then walked that idea back when it faced public backlash.
Multiple US senators and congressmen explicitly began to support bitcoin and the digital assets industry, and a number of mayors and governors positioned their cities and states as hubs for bitcoin and digital assets. It’s getting to the point, where politicians are almost using pro-crypto regulations to gain votes. The UK remained quiet for some time, but recently announced it wants to make the UK a crypto hub, and even wants to create its own NFT.
In general, the risk of ‘what if it’s banned’, seems to be trending lower.
So, what next?
There is much we can foresee, like another country adopting Bitcoin as legal tender, and much we cannot, like… well I wouldn’t know.
Whatever happens, I hope by now you are not going to be caught in the camp that thinks this time Bitcoin is once again dead.
To finish this section off, here’s a brief extract from Lyn Alden on Bitcoin and the Lightning Network:
When the iPhone came out in 2007, few people thought, “wow this could really disrupt the taxi industry a decade from now”. Basically, multiple types of technology had reached the point where everyone could have an internet-connected computer in their pocket, and that represented a set of building blocks that led to things few people imagined, including applications like Uber.
Having a network of instant and nearly-free transactions across multiple asset types, including self-custodied bearer assets, that can be programmed with all sorts of multi-signature use-cases, represents another set of building blocks that really won’t matter on the grand scale for years, but that in the long run looks extremely interesting. - Lyn Alden
Bitcoin Outlook
In the ‘What’s Holding Bitcoin Back??!’ newsletter I said:
Supply is tight but demand is missing. As Lyn Alden put it, think of what we are seeing now as kindling being laid down for a fire. Everyday, when someone who doesn’t want Bitcoin, sells it to someone who wants to hold it for the long-term, another piece of kindling gets placed. Right now the macroeconomic environment is raining down on this little pile of kindling, but more pieces of kindling keep getting placed there anyway. The longer it takes for the rain to stop, the more kindling there will be. Eventually, the rain will stop, the sun will come out and the kindling will dry. Then a small spark will come and land on this huge pile of kindling. I think you know what happens next.
And to date, it is still very much raining.
The PMI (a leading indicator for the health of the economy) is still falling.
This means the US economic growth is decelerating, and historically, Bitcoin performs poorly in this environment.
Bitcoin (Orange), PMI (Blue)
I’ve used a moving average of the PMI to smooth out the data, and marked the tops (red) and bottoms (green) on both the PMI moving average (blue) and Bitcoin (orange).
This clearly shows that the PMI is remarkably good at marking the tops of Bitcoin bull runs, but that Bitcoin often bottoms before the PMI starts rising once again. The PMI has recently topped at the same time as Bitcoin and is currently trending lower. If history is any indication, we can expect Bitcoin to bottom before the PMI, however it is unlikely we see any parabolic moves, breaking all-time highs, from Bitcoin until the PMI has bottomed and is once again trending higher.
A reason for this correlation is that Bitcoin is still regarded by the general population as a risk-on asset, and risk-on assets tend to perform badly in worsening economic conditions.
Another indication of whether we are in a risk-off or risk-on environment is the Dollar Index (DXY).
In a risk off environment, money flows into dollars at is ‘safe haven’. Typically, when the dollar is in a monster uptrend, Bitcoin struggles, and when the DXY is moving sideways or down, Bitcoin performs well.
To see this relationship more clearly, we can look at the 2017 and 2020 bull runs:
Bitcoin (black)
To see the whole picture:
As you can clearly see, the DXY is currently in a monster uptrend. Until this uptrend slows down and starts to roll over, it’s unlikely we will see any crazy action from Bitcoin.
In the last edition, we hypothesised at this breakout:
The breakout did occur, but it just turned out to be a fakeout, and we have once more entered the chop with no clear direction.
To summarise, we are still in a very risk-off environment and Q2 2022 is likely to be bearish or neutral. Until we see a rising PMI and falling Dollar, it’s unlikely that Bitcoin will do anything exciting.
Does this mean it’s a bad time to buy? Not necessarily. Buying when Bitcoin is already going parabolic is what retail does. Buying into weakness is what smart money does. But be aware, we could yet see a March 2020 style capitulation in traditional markets, which would bring Bitcoin down with it. It looks quite ugly out there, so make sure to have a healthy cash position on the side to take advantage of such a dip.
Personally, I continue to see a simple long-term DCA strategy as the best approach to investing in Bitcoin.
Video I Loved
Bitcoin 2022 Conference brought with it some major announcements and a fantastic talk by Jack Mallers. Entertaining and educational, what more could you want?
Extract I’m Pondering
As we head into spring, I thought I’d share this thoughtful extract from The Daily Stoic newsletter. It’s a nice reminder to be a bit more present.
Spring is the most beautiful of the seasons. Suddenly, after a dreary winter, the colors come back. The birds are out. The days last longer. The breeze is light and the air is cool.
But as Phillip Larkin’s bittersweet poem reminds us, beneath this turning of the seasons is a kind of darkness.
The trees are coming into leaf
Like something almost being said;
The recent buds relax and spread,
Their greenness is a kind of grief.
The inherent grief is the passage of time. That’s one more fall and summer and winter that we will not have again. As Seneca reminds us, death is not something in the future. Death is happening now, each season brings new life, yes, but also marks the cessation of life. It’s a painful truth, the poem reads, written in the rings of the tree. Winter is dead and over…and all of us a little more so too.
So soak in this wonderful weather…and catch yourself if you start looking forward to summer. Because you’re wishing away the present—you’re wishing away a season of your life. And as we’ve said before, you should never, ever do that.
That’s all for today.
I wish you all a lovely week and hope you are enjoying the start of spring…!
Best wishes,
Tats
Library
Let me know if I forgot any other words or abbreviations and I'll include them next week.
Bullish - Causing, expecting, or characterized by rising stock market prices.
Bearish - Causing, expecting, or characterized by falling stock market prices.
Bear Trap - Tricking everyone that price is going to break down, before moving up.
Bull Trap - Tricking everyone that price is going to break up, before crashing down.
DCA - Dollar Cost Average. Investing incrementally on fixed schedule.
DEX - Decentralised exchange.
EMA - Exponential moving average
ETF - Exchange traded fund. A type of security that tracks an index, sector, commodity, or other asset, but which can be purchased or sold on a stock exchange the same way a regular stock can.
Fed - The Federal Reserve, central banking system of the US.
Fiat Currency - Fiat money is government-issued currency that is not backed by a physical commodity, such as gold or silver.
FOMC - The Federal Open Market Committee (FOMC) is the monetary policymaking body of the Federal Reserve System.
Fractal - Repeating patterns from the past.
HODL - To hold your coins and not sell them despite crashes in price.
MA - Moving average.
S/R - Support/Resistance level.
Whale - A very large holder of Bitcoin
The information contained herein is for informational purposes only. Nothing herein shall be construed to be financial legal or tax advice. The content of this email is solely the opinions of the write who is not a licensed financial advisor or registered investment advisor. Trading cryptocurrencies poses considerable risk of loss. The writer does not guarantee any particular outcome.