As Miss Cleo once said, “I never make predictions, especially about the future.”* It sounds tongue in cheek, but there’s more meaning to it than one might give it at first blush. Any model used to predict the future rests upon certain assumptions, and that model will only be as good as those assumptions. The issue is that often these assumptions aren’t made clear. The model spits out some answer, it’s taken as gospel and the resulting numbers, stats and figures from it are toted around like some empirical truth.
We’ll try to be more honest here. Let’s try to predict Bitcoin’s price. With that, let me say the obligatory: I am not a financial advisor. DYOR or get RKT.
To start, we should consider some valuation models. A typical stock may be valued based on the Capital Assets Pricing Model (CAPM). It’s a classic. This is what it looks like:
Hmmm… seems legit. It is a formula. Could be a little complicated**; there is a Greek letter in it. This would probably be a great thing to use to make us look smart and rigorous. Bitcoin isn’t a stock though, and JClay said BTC isn’t even a security. We don’t have any cashflows either, so using a model that prices something like that in may be an exercise in putting a square peg in a round hole.
The common wisdom around bitcoin is that it’s not really a currency, it’s not a security and it’s more of a store of value. The proverbial “Digital Gold.” Let’s get simple and just do some straight up math around the combined market cap of gold and bitcoin. Perhaps this is naive, but there may still be some useful insights.
To start, gold has a market cap of about $11.2 trillion. There are some other sources that put it at just under $11 trillion, but we’re in the same ballpark so we’ll use the $11.2 number since I did some math around it and it makes this all seem more thought out. Here’s that math:
- Total supply of gold: 201,296 metric tonnes
- Troy ounces per metric tonne: 32,150.7
- Spot gold price per troy ounce: $1,725
- Market cap of gold: $11,163,867,604,920
- Too many digits: $11.2 Trillion
Now it’s probably good to lay out a thesis: Bitcoin is provably scarce, the market has begun to give it value, and it behaves like digital gold. As bitcoin sees greater adoption, it will begin to replace the use of gold both as a store of value and an inflation hedge.
To run our simple price model for bitcoin, we can just take the market cap of gold, add in the current market cap of bitcoin, and call this the demand for inflation resistant stores of value. Gold, and to a lesser extent silver***, have always had a monopoly on this, but now that we can digitize everything and own that digitization, it follows that demand will move to the new store of value, i.e. bitcoin.
Since there are about 3,000 tons of gold production each year, we should factor this in somehow. If we use the estimated below ground reserves, we can just pretend all these will be mined and add that to the market cap of gold. With an estimated 54,000 tonnes of gold reserves below ground, that’s about 18 years of mining. That takes us to about 2039, give or take, and the last bitcoin is expected to be mined in 2040. Close enough for the kind of math we’re doing here.
- Current market cap of gold: $11,163,867,604,920
- Bring that new gold above ground: 54,000 tonnes
- Turn new, unburied gold to dollars: $2,994,837,705,000
- Take out 10% for industrial uses: $299,483,770,500
- New total gold market cap: $13,859,221,539,420
- All the bitcoins: 21,000,000
- Price of bitcoin: $56,269
- All BTC market cap at current price: $1,181,649,000,000
- Combined market cap: $15,040,870,539,420
Now we have the combined market capitalization in dollars – at today’s prices – for all the word’s gold and bitcoin: $15 trillion. Going back to our thesis, we can think of this $15 trillion figure as the number of dollars that all market participants are putting into assets as a store of value or an inflation hedge. So, if bitcoin begins to steal market share – all else equal – we start seeing prices for bitcoin looking something like this:
When you hear people making predictions for $500K BTC, this is one method for how they get there. How realistic is this? Perhaps very, eventually. What this model can’t tell us is how fast bitcoin will be adopted by the broader investor community, if high net worth investors will move to bitcoin, or if central banks hold more or less gold in the future (17% of all gold above ground is held by central banks). The numbers above also assume that none of the current bitcoin being held was used to replace any gold as a store of value yet. Besides all that, there are other use cases for bitcoin, and the relative share of those use cases will impact demand of bitcoin and thus its price.
Additionally, the price for bitcoin and gold were picked on arbitrary days (when I wrote this), and how close those prices are to the current “intrinsic value” of the underlying is anybody’s guess. This also can’t tell us the rate of inflation and what effect that will have on both the price of gold and bitcoin. Both gold and bitcoin are being discussed in dollar terms here. If the common denominator changes due to inflation, one of our key inputs starts changing. And we all kind of expect that to happen. In fact, that’s the reason why we like bitcoin, and has been the main investment impetus for gold. What if there isn’t much inflation? What if the big money keeps liking gold and never really takes to bitcoin?
Or what if in 20 years a new startup builds a rocket, intercepts a gold-rich asteroid and suddenly can mine more gold from that asteroid than has ever been mined on Earth? Gold is no longer scarce and its value plummets to the point where it’s near worthless. Or maybe it doesn’t, because nobody would send something as heavy as gold back into a gravity well and there’s a dual market where gold is cheap in space and only expensive on Earth…. Well, I try not to make predictions, especially about the future.
^^ For the purposes of the math done above, the price for spot gold was taken as $1,725/oz & $56,269 was used for bitcoin ^^
* This quote has been variously attributed to Mark Twain, Niels Bohr and Yogi Berra. You can read all about it here. I wanted to attribute it, but nobody knows who said it first so I just made a Miss Cleo joke.
** The CAPM formula is pretty close to the slope-intercept formula from your first year of algebra (y = mx + b). The risk-free return is the y-intercept (b), m is beta and the risk premium is x. There's some trickier math to get to some of those inputs, but it's not too overwhelming (the beta is just a correlation coefficient).
*** Silver has more industrial applications than gold, and thus is not as pure of a store of value/inflation hedge as gold. While approximately 10% of mined gold is used in industrial applications, it’s about 50% for silver
