Has Bitcoin Jumped the Shark?

Bitcoin Jumps the Shark

Bitcoin has passed its peak. The invented crypto currency has been labeled property by the IRS and the price is on a steady decline. Is the end near?

Has Bitcoin Peaked?

Last Thanksgiving Bitcoin was on a roll. Recently discovered by the mainstream media and the subject of Congressional hearings, Bitcoin was declared a legitimate financial instrument by the U.S. Justice Department, hailed as a “game changer” and identified (incorrectly) as “holding promise” by Ben Bernanke the then Chairman of the Federal Reserve. The price of Bitcoin soared from around $200 at the start of November to over $1200 on Mt. Gox in early December.

Indeed, the euphoria over Bitcoin was such that at the end of 2013, fifty six percent of Bitcoiners predicted a price of $10,000 per Bitcoin in 2014, while other Bitcoin proponents predicted $100K to $1M per Bitcoin.

A lot has changed since then. For starters the most recent price of Bitcoin on Slovenia based Bitstamp (we can’t use the price from the Mt. Gox exchange, once the largest Bitcoin exchange because they recently “lost” all their Bitcoins and declared bankruptcy) is $444 per Bitcoin.

In just a few months Bitcoin has gone from being on top of the world to falling out of favor. While the Bitcoin technology holds massive promise, the price of Bitcoin does not.

It’s time to call “dotbomb” on Bitcoin.

It’s 15 minutes of fame is coming to an end.

Bitcoin has jumped the shark.

Here’s why:

High Profile Bitcoin Hacks and Thefts

Bitcoin’s rapid price rise turned heads last year and attracted plenty of main stream media attention. It also attracted speculators, hackers and thieves.

Here are just a few of the recent high profile hacks and thefts of Bitcoin:

Mt. Gox (theft from what was once the world’s largest Bitcoin exchange & subsequent bankruptcy filing- February 2014)

Flexicoin (theft of all coins from this Bitcoin bank causing its closure -March 2014)

Poloniex (theft of 12.3% of Poloniex’s Bitcoins- March 2014)

BIPS (theft of $1 million worth of Bitcoins from European payment processor BIBS – November 2013)

Vicurex (Beijing-based Bitcoin exchange hacked twice, teetering on insolvency – hacked twice in 2013)

Silk Road 2 (Silk Road 2-successor exchange to Silk Road hacked, loses all $2.7 million worth of Bitcoin – February 2014)

None of these hacks exploited any flaw in the Bitcoin code itself but for the public, explanations like “transaction malleability” are meaningless. The impression made was Bitcoin was unsafe.

It didn’t help that earlier this month Blockchain, a popular bitcoin wallet service had technical difficulties with its database (again nothing to do with any flaw in the Bitcoin protocol or even the result of hacking) causing it to be off line on and off for a couple of days.

Bitcoin price drops

Bitcoin Has Dropped 60% Since Hitting its Peak in December 2013

Bitcoin Regulation

The seemingly positive pronouncements made late last year by U.S. government officials did not give Bitcoin a pass.

Earlier this month we wrote that U.S. Bitcoin regulation was just getting started and noted that any of The U.S. Treasury Department, The United States Department of Justice (DOJ), the Securities Exchange Commission (SEC), and The Commodities Futures Trade Commission (CFTC) might apply their regulatory stamp on Bitcoin. We also warned of coming unfavorable tax treatment from the Internal Revenue Service (IRS).

Internal Revenue Service- Tax Treatment of Bitcoin

The Internal Revenue Service (IRS) recently ruled that for tax purposes Bitcoin will be treated as “property” not as a currency. In addition to the psychological blow in calling Bitcoin, a ‘crypto currency’, ‘property’ the ruling dealt a body blow to Bitcoin. The retroactive ruling requires tax to be paid on the gains realized on the sale of Bitcoin, including those realized when used in transactions. Users are now required to calculate what they paid for their Bitcoins and what they “sold” them for when they bought something and to report and pay taxes on the gain.

The IRS ruling takes much of the convenience out of Bitcoin and makes day to day use impracticable. Tracking all purchases and calculating gains and losses places an inordinate burden on those using Bitcoin every day to make purchases. Bitcoin users will also be required to pay taxes on any gains made using Bitcoin in all prior years during which they had gains, whether those gains arose from trading Bitcoin on an exchange or simply using them in transactions.

Burdensome tax record keeping will have a significant impact on slowing Bitcoin adoption. Why use Bitcoin if you are subject to reporting IRS requirements and are also subject to price fluctuation risks in holding bitcoin when you can use cash or a credit card with no reporting requirements and no risk of frequent wild daily price fluctuations?

The IRS ruling can’t be easily ignored as the government is gaining and will gain more information about the transactions and identities of those conducting transactions by scouring the public Bitcoin ledger or “blockchain”. They can ask merchants for names of people who used Bitcoin to buy merchandise from them. They can then track down the people and “request” information on the Bitcoin used, the cost basis and whether the gain was declared on their taxes. They can go back years and many Bitcoin users will probably get tax assessments.

Eventually the IRS and the U.S. government will gain plenty of insight into the Bitcoin blockchain itself – who owns what, who buys what from whom, who declares their gains and who doesn’t.

Andreas Antonopoulos, an articulate spokesman and Chief Security Officer at Blockchain cried foul and claimed that the IRS made the ruling without understanding* the technology and the impact such a ruling would have.

Because Bitcoin is a potential competitor to the U.S. dollar, the characterization of Bitcoin as property by the IRS and the onerous reporting requirements imposed by their recent ruling was probably done with full knowledge of the implications. If Bitcoin (the unit) is now deemed to be property, whose only characteristic is its suitability to use as a currency, the IRS ruling made it a burden to use it as currency and thereby also undercut the value of it as property.

Treasury Department

In a slight similar to the IRS not designating Bitcoin a currency, Treasury Department David S. Cohen, the undersecretary for terrorism and financial intelligence recently stated “Terrorists generally need ‘real’ currency, not virtual currency, to pay their expenses -– such as salaries, bribes, weapons, travel, and safe houses.” For now the Treasury Department seems to be downplaying the significance of Bitcoin as not worth bothering about because its not a “real” currency.

IF Bitcoin’s user numbers grow to the level of Egold, which grew to five million users before being shut down by the Department of Justice, we can expect the Treasury Department to take a greater disruptive interest in Bitcoin.

The Department of Justice

Shut Down of Silk Road, An Online Illegal Drug Bazaar Trading in Bitcoins

In September 2013, the Federal Bureau of Investigation, a branch of the Department of Justice (FBI) shut down Silk Road an online market place that sold a variety of merchandise, 70% of which were illegal drugs. Bitcoin was the currency used to conduct transactions on Silk Road. The U.S government confiscated nearly 30,000 Bitcoins in a sting operation that took down Silk Road. Even though the vast majority of illegal drugs are sold using U.S. dollars, the shut down of Silk Road, an online site that used Bitcoin, cemented for many an impression that Bitcoin’s primary use is for illegal purposes.

Arrest of BitInstant CEO Charlie Schrem

In late January 2014 the CEO of BitInstant, Charlie Shrem was arrested on money laundering charges. BitInstant provided a service that allowed customers to purchase Bitcoins from BitInstant for cash. The charges against Mr. Shrem were based on dealings that BitInstant had with an individual who purchased Bitcoins from BitInstant for use on the Silk Road. Mr. Shrem was also charged with buying illegal drugs on the Silk Road.

While Silk Road’s ostensible purpose was to create an online bazaar for sale of illegal merchandise, BitInstant was a legal business that allowed the exchange of cash for Bitcoin.

Mr. Shrem was also Vice Chairman and a founding member of the Bitcoin Foundation. Mr. Shrem has since resigned his position at the resigned from Bitcoin Foundation.

The Silk Road bust and the Charlie Shrem arrest send a subtle message to the public that Bitcoin is criminal.

Investigation of Mt. Gox and its CEO Mark Karpeles

Following the collapse of the Mt. Gox Bitcoin trading exchange in Japan, the U.S. Attorney subpoenaed Mt. Gox. It’s unclear at this point what jurisdiction the U.S. government may have over Mt. Gox, a Japanese Exchange or Mark Karpeles, a French citizen.

Mt. Gox and Mr. Karpeles were board members of the Bitcoin Foundation. Both have since resigned.

Securities Exchange Commission

Earlier this month the Securities Exchange Commission (SEC) announced an investigation of the sale of Satoshi Dice. The transaction consideration received by the seller was 126,315 Bitcoins.

The institutional bias at the SEC does not favor Bitcoin. While not labelling Bitcoin or any other crypto currency “Ponzi schemes”, the SEC has issued a warning on the use of crypto currencies in Ponzi schemes.

Worldwide Bitcoin Regulation

Bitcoin is already banned totally or in part in Russia, China, Malaysia, Thailand, Japan, Indonesia, Vietnam and South Korea. The Danish National Bank warned recently on Bitcoins calling them “glass beads“.

China Ban?

Last week China ordered banks to shut Bitcoin exchanges by April 15. The price of Bitcoin on Bitstamp dropped over $100 or nearly 20% and finished at $471 on the day.

Warren Buffet has called bitcoin a mirage and a joke

Bitcoin is a Mirage Wrapped Inside a Delusion

Popular Culture

Popular culture often gives clues as to when a fad has peaked and is about to finish running its course.

Joe Kennedy once noted that when “Taxi drivers tell you what to buy. The shoeshine boy can give you a summary of the day’s financial news you can tell it’s time to sell”.

The Twitter “Bitcoin” Test

Bitcoin has hit social media in a big way. There is a proliferation of twitter handles with Bitcoin in their titles. Next year such twitter handles may be viewed as bad tattoos.

Warren Buffet Calls Bitcoin a “Joke” and a “Mirage”

On a recent CNBC interview, Warren Buffet called Bitcoin a “joke” and a “mirage” and advised people to stay away from it. Pretty strong words from someone who knows a thing of two about investing.

Bitcoin on the Cover of Newsweek

Appearing on the cover of a national magazine often means the peak is closely approaching or already passed. (although in a rare instance the opposite occurred in 1975 when Newsweek and Time magazine featured relatively unknown Brue Springsteen on their covers in the same week).

In mid March Newsweek magazine claimed to have discovered the identity and whereabouts of Bitcoin’s anonymous founder Satoshi Nakamoto. Newsweek featured their “findings’ on the cover of their magazine.

Business Insider

Widely read Joe Wiesenthal of Business Insider who had been a constant and dismissive critic of Bitcoin calling it a “joke”, wrote a volte-face on December 1, 2013 at the height of the Bitcoin craze: “Why I’m changing My Mind on Bitcoin“. Clearly humbled by the massive rise in Bitcoin’s price since he began trashing it, Mr. Wiesenthal begrudgingly gave Bitcoin some credibility. Soon there after the price of Bitcoin began its steady three month descent.

Greenspan Calls Bitcoin a Bubble

Alan Greenspan the former Chairman of the Federal Reserved weighed in on Bitcoin in early December calling it a bubble and without intrinsic value. Mr. Greenspan should know a bubble when he sees one, having created the largest real estate bubble in history via his low interest rate policies during his tenure as Fed Chairman.

Reddit CEO Bashes Bitcoin Users on the Bitcoin Reddit Forum

One of the most popular place to discuss Bitcoin is Bitcoin Reddit where Bitcoiners share news and information about their favorite crypto-property. In a rare instance of a company CEO outwardly showing disdain for its customers, Yishan Wong had this to say:

“Without being too inflammatory, the user base for Bitcoin is basically crazy libertarians who are increasingly poorly-informed about currency systems and macroeconomics.” and warned:

“I would not be surprised if the NSA is actually heavily in favor of Bitcoin,” he wrote, “because by combining their other data streams, they can cross-correlate activity on the blockchain and essentially know exactly who is doing what.”

Forbes Magazine also asked recently whether Bitcoin was an investement or a cult.

Harris Poll: People Don’t Trust Bitcoin

It’s not surprising that with all the negative news, information, misinformation and massive decline in the price of bitcoin that people don’t trust Bitcoin. A recent Harris Poll showed that while there is enthusiasm for Bitcoin in the “Bitcoin Community” a good portion of the public is unfamiliar with it and those that do have an unfavorable opinion of it.

Venture Capital and Wall Street Money Arrives

Bitcoin was never meant to be a tool of Wall Street with derivatives, regulated exchanges and ETF’s. If Wall Street has its way, however, that is where it is headed.

In today’s bubble economy where companies, like Oculus, with no revenues or even commercially available products can be sold for $2 billion, Bitcoin’s soaring price has attracted Wall Street and Venture Capital interest.

There are now plans and investment dollars backing Bitcoin storage vaults, Bitcoin ATMs, Bitcoin ETF’s and regulated Bitcoin Exchanges.

As Wall Street gains greater control over Bitcoin, Marc Andreessen, a venture capitalist who has promised his firm Andreessen/Horowitz will invest hundreds of millions of dollars in Bitcoin predicts that current libertarian supporters of Bitcoin will turn on it.

Perhaps, savvy early Bitcoin adopter libertarians will sell their Bitcoins to the moneyed Wall Street and Venture Capitalist types before the bottom falls out on the price of Bitcoin.

*the IRS doesn’t need to understand Bitcoin technology any more than they need to understand how U.S. dollars are engraved.

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Further Reading:

The Case Against Bitcoin

Bitcoin a Mining Disaster Waiting to Happen

Will Greater Adoption Lead to Higher Bitcoin Prices

Here Comes Bitcoin Regulation

Apple Removes All Bitcoin Apps From Its App Store

Bitcoin Jesus on the Run

Bitcoin is Worthless

Bitcoin Trading Volume Tumbles

Royal Canadian Mint

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