Vardiz Commerce Sdn Bhd (2018)

Bitcoin:Fundamental Drivers of the Bitcoin Market

Last updated:

October 2018

Preamble

1. We assume Bitcoin behaves like a commodity for analysis purposes.

2. Like all commodities, Bitcoin is subject to supply and demand.

3. The supply side of the equation can be studied with exquisite precision. The demand side can only be studied with liberal assumptions.

4. As investors, faith that Bitcoin reaches maturity is prerequisite.

5. Our first goal is to establish a framework to value Bitcoin on an assumed maturity by 2030.

6. Or second goal is to share current market dynamics, and predict how market dynamics will evolve by 2030.

1. Miners are network participants competing to append new blocks onto the Blockchain. A new block gets appended every ~10 minutes(A).

2. The successful miner is rewarded with new Bitcoin. The first block rewarded 50 BTC. Rewards halve every 210,00 blocks(B).

3. By 2018; ~17m BTC in total have been rewarded to miners(C).

4. By 2030; ~20m BTC in total would have been rewarded to miners(C).

5. Hence between 2018-2030, the implied supply rate is ~1.4% p.a.

𝐵𝑇𝐶𝑟𝑒𝑤𝑎𝑟𝑑 ≈ 50 × 2−

ℎ𝑛210000

Bitcoin supply

(B)

(C)

Source: https://en.bitcoin.it/wiki/Controlled_supply & https://medium.com/chainalysis/bitcoin-mining-calculations-ff90dc958dba

(A)

10m

17m

20m

2018 2030

h0 h1 h2 h3

Source: 1, http://fortune.com/2017/11/25/lost-bitcoins/

Bitcoin circulation

1. There is a fixed pool of unmined Bitcoins remaining. Between 2018-2030, these will be added to circulation at rate ~1.4% p.a.

2. Lost of private keys or owner disappearance will result in loss of Bitcoins. Estimated 3.8m BTC have been lost this way1. As security practices improve, this is not expected to get much worse.

3. For valuation purposes, it is prudent to base analysis on circulating Bitcoins, currently ~13m BTC in 2018, expecting to grow to ~16m in 2030.

UnminedBTC

LostBTC

CirculatingBTC

~ 1.4% p.a.

~ 0% p.a.

21mTotal:

~13m

~4m

~4m

2018

~16m

~4m

~1m

2030

Maturity assumptions

• Bitcoin reaches “maturity” by 2030. 2030 is ~20 years since inception of Bitcoin – same timeframe the internet needed to reach broad adoption.

• Technical hurdles are overcome. Most pertinent to Bitcoin are issues of scaling, privacy & user experience –vibrant open-source community ensures continuous development.

• Remain resilient to oppression. Until society accepts the idea and merit of a self-sovereign currency, Bitcoin will continue attracting opposition –decentralization by design and practice ensures the ecosystem is antifragile.

• Maturity valuation is sum-of-parts.The valuation of Bitcoin additive from the following distinct components:-

𝑀𝑎𝑡𝑢𝑟𝑖𝑡𝑦𝑣𝑎𝑙𝑢𝑒 𝑜𝑓𝐵𝑖𝑡𝑐𝑜𝑖𝑛

=

𝑉𝑎𝑙𝑢𝑒𝑎𝑡𝑡𝑟𝑖𝑏𝑢𝑡𝑎𝑏𝑙𝑒𝑡𝑜 𝑢𝑠𝑒 𝑎𝑠𝑢𝑡𝑖𝑙𝑖𝑡𝑦

+

𝑉𝑎𝑙𝑢𝑒𝑎𝑡𝑡𝑟𝑖𝑏𝑢𝑡𝑎𝑏𝑙𝑒𝑡𝑜 𝑢𝑠𝑒 𝑎𝑠

𝑠𝑡𝑜𝑟𝑒 𝑜𝑓 𝑣𝑎𝑙𝑢𝑒

Source: 1. An (institutional) Investors' Take on Cryptoassests https://s3.eu-west-2.amazonaws.com/john-pfeffer/An+Investor%27s+Take+on+Cryptoassets+v6.pdf

Value attributable from utility

1. If the Bitcoin ecosystem is liken to an economy, then the value of all “money” within it can be estimated using the QTM1 formula(A).

2. Bitcoin’s utility stems not only for use as payment rail, but also as a consensus layer for various applications. Hence PQ may be summed across all applications(B).

3. Bitcoin is designed to be cheap -price of facilitation will be low.

4. The same Bitcoin can jump from owner to owner quickly - meaning “velocity” will be high.

5. Hence even if Bitcoin becomes an enormous public good, the value attributable to its utility will likely be marginal.

𝑇𝑜𝑡𝑎𝑙𝑣𝑎𝑙𝑢𝑒𝑜𝑓 𝑎𝑙𝑙𝑚𝑜𝑛𝑒𝑦

=

𝐴𝑣𝑒𝑟𝑎𝑔𝑒𝑝𝑟𝑖𝑐𝑒 𝑜𝑓

𝑔𝑜𝑜𝑑𝑠 𝑎𝑛𝑑𝑠𝑒𝑟𝑣𝑖𝑐𝑒𝑠

×

𝑇𝑜𝑡𝑎𝑙𝑞𝑢𝑎𝑛𝑡𝑖𝑡𝑦 𝑜𝑓𝑔𝑜𝑜𝑑𝑠 𝑎𝑛𝑑𝑠𝑒𝑟𝑣𝑖𝑐𝑒𝑠

𝑇ℎ𝑒 𝑣𝑒𝑙𝑜𝑐𝑖𝑡𝑦𝑜𝑓 𝑎 𝑢𝑛𝑖𝑡 𝑜𝑓𝑚𝑜𝑛𝑒𝑦

𝑀 =𝑃𝑄

𝑉

(A)

𝐵𝑖𝑡𝑐𝑜𝑖𝑛𝑣𝑎𝑙𝑢𝑒

𝑎𝑡𝑡𝑟𝑖𝑏𝑢𝑡𝑎𝑏𝑙𝑒𝑡𝑜 𝑖𝑡𝑠 𝑢𝑡𝑖𝑙𝑖𝑡𝑦

=

𝐴𝑣𝑒𝑟𝑎𝑔𝑒𝑝𝑟𝑖𝑐𝑒 𝑜𝑓

𝑡𝑟𝑎𝑛𝑠𝑎𝑐𝑡𝑖𝑜𝑛𝑓𝑎𝑐𝑖𝑙𝑖𝑡𝑎𝑡𝑖𝑜𝑛

×𝑇𝑜𝑡𝑎𝑙

𝑞𝑢𝑎𝑛𝑡𝑖𝑡𝑦 𝑜𝑓𝑡𝑟𝑎𝑛𝑠𝑎𝑐𝑡𝑖𝑜𝑛𝑠

+ ⋯

𝑉𝑒𝑙𝑜𝑐𝑖𝑡𝑦 𝑜𝑓 𝐵𝑖𝑡𝑐𝑜𝑖𝑛

(B) 𝑃𝑎𝑦𝑚𝑒𝑛𝑡 𝑟𝑎𝑖𝑙 𝑢𝑡𝑖𝑙𝑖𝑡𝑦 𝑂𝑡ℎ𝑒𝑟 𝑢𝑡𝑖𝑙𝑖𝑡𝑖𝑒𝑠

𝑇ℎ𝑒 𝑄𝑢𝑎𝑛𝑡𝑖𝑡𝑦 𝑇ℎ𝑒𝑜𝑟𝑦 𝑜𝑓 𝑀𝑜𝑛𝑒𝑦 𝑓𝑜𝑟𝑚𝑢𝑙𝑎

1. Beyond its demand as a utility, there is a much larger demand for Bitcoin as a store-of-value.

2. The “store of value” market is large(A), but only gold is sufficiently similar to Bitcoin for comparison.

3. Extrapolating its supply growth(B), the estimated market size of gold by 2030 is ~ USD 10.9tn.

4. Presupposing Bitcoin will steal 10% of this market, then Bitcoin’s total value may grow to be USD 1.1tn, leaving gold with only USD 9.8tn.

5. Working backwards, the value of Bitcoin today attributable to its store-of-value demand is USD 0.9tn.

6. Tweaking assumptions will produce different estimates, but this is as rigorous as it can get.

Value attributable from store-of-value

Source: 1. Fundstrat Global Advisors http://www.businessinsider.com/bitcoin-price-how-to-value-fundstrat-tom-lee-2017-10/?IR=T 2. Gold 2048 https://www.gold.org/research/gold-2048#

2017 stores of value1 Size (USD) %

Real Estate 228tn 82%

Collectibles 22tn 8%

Government bonds 20tn 7%

Gold 9tn 3%

280tn

Bitcoin 0.2tn 0.01%

Gold Bitcoin

Current supply (units) 190k tons2 13m

2030 supply (units) 230k tons2 16m

Current market size (USD) 9tn 0.2tn

Current market share (%) 98% 2%

2030 market share (%) 90% 10%

2030 market size (USD) 9.8tn 1.1tn

Current “fundamental” value(inflation adjusted) (USD)

9.0tn 0.9tn

(A)

(B)

Bitcoin & Altcoins upon maturity

1. Current altcoin market is largely speculative(A). However, likely at least some of them will mature.

2. Many altcoins have functionalities that Bitcoin lacks, but it makes no sense to hoard them the same way it does to hoard Bitcoins – altcoins are merely working capital.

3. If users only need to acquire altcoins as and when they need to utilize them, then velocity will be high and notional value will be low.

4. This dynamic is analogous to holding USD while traveling around developing countries.

Source: 1. https://coinlib.io/

(A)24h flows as at 25/ 09 /2018

1. Not all the 13m Bitcoins in circulation are active market participants.

2. Every Bitcoin minted has an “age”; defined as the amount of time since it was last used in a transaction –these can be tracked by parsing the Blockchain.

3. Those looking to keep Bitcoin long term are termed HODLers. They are passive observers to the market.

4. Bitcoin whose age < 12 months are likely active market participants. This pool represents ~10m BTC at 2018.

Bitcoin activity

Source: https://blog.unchained-capital.com/bitcoin-data-science-pt-1-hodl-waves-7f3501d53f63

Lost BTC

~4m BTC

OldHODLers

Active market participants

~10m BTC

BTC in circulation

~13m BTC

NewHODLers

Market platforms

1. At least 10m BTC are traded globally across myriad platforms:-

• Large fiat-crypto exchangesBetween major currencies (USD, EUR, YEN) and BTC.

• Regional fiat-crypto exchangesBetween local currencies (SGD, THB, MYR) and BTC.

• OTC marketsCatering to HNWis and institutions.

• Derivatives marketsCatering to hedge funds and professionals.

• ETFs (upcoming)Catering to retail investors, structured similar to SPDR gold shares

• P2P marketsAvailable in jurisdictions where Bitcoin is outlawed.

• Crypto-crypto exchangesBetween BTC and altcoins (ETH, LTC)

1. Arbitrage between platforms historically exists due to slow and restricted transfers of fiat.

2. Humans, relying on technical analysis and often physical exchange were able to exploit such arbitrage for some time.

3. The introduction of tokenized fiat such as USDT, TrueUSD, BitEUR fundamentally changed the market structure.

4. It is now a lot easier to automate intra-platform and inter-platform trades using bots.

5. Unless equipped with specific insights, it will be very difficult for retail day traders to outcompete high-tech counterparties.

Humans vs bots

Humans -technical analysis and physical transfers

Bots -APIs, machine learning, high frequency trades etc.

VS

1. Few institutions desire to be self-sovereign, hence facilitating institutional access to Bitcoin require robust custodial services.

2. Even upon maturity, likely Bitcoin will remain a niche component within a managed portfolio.

3. For investment managers, the risk-reward profile of Bitcoin is similar to other alternative assets such as PE/VC and real estate.

4. Even a small reallocation to Bitcoin is positive to our ecosystem, hence institutional participation should be encouraged.

Institutional participation

Source: https://www.iasg.com/en-us/resources/article/alternative-investments

Average asset allocation of 62 US university endowments

~USD 35b in 2018

Source: https://martin.ankerl.com/2018/09/20/bitcoin-unspent-transaction-outputs-graph/

The big pictureEach dot is a UTXO (analogues to accounts) with a particular balance.The brighter the dot, the more UTXOs. Chart is log scale.

2011 2012 2013 2014 2015 2016 2017 2018

Everyone isjust mining

Exchangesproliferate

TodayThe firsttrades

About usVardiz Commerce Sdn Bhd

Our goalTo produce compliant market infrastructure for the Malaysian Bitcoin ecosystem

Our plan1. Educate the public2. Lobby stakeholders3. Operate a brokerage4. Develop an exchange5. Spread merchant tools

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