Cryptocurrency: Do You Still Have a Fear of Missing Out on Bitcoin?

With a price near record highs and lots of free publicity from Elon Musk, Bitcoin has been seeing new interest lately. Some people are experiencing a “fear of missing out” (FOMO) on cryptocurrency.  Before you do, please recall my 2018 article “Confessions of a Bitcoin Miner” where I argued that cryptocurrency prices were highly speculative and that one should first consider the actual cost of producing a new Bitcoin for comparison.  I exposed that new Bitcoin could be mined for a profit by an amateur like me on a home computer, even with high local electricity prices.  However, the bulk of Bitcoin mining is done at much lower cost on specialized machines with subsidized electricity, thereby earning a tremendous profit at current prices.  The fact that profits on mining can be so high is a warning sign of too high a price.

Repeating my economic argument from that article, this means that one should think twice before investing in Bitcoin at current prices.  Therefore, my opinion remains the same as back then – that overcoming this FOMO is better remedied by making and selling Bitcoin, not by buying it at current prices … while maintaining your current portfolio.

Greater Acceptance of Bitcoin or Crypto Shenanigans?

One recent development has been growing acceptance of Bitcoin as payment for products and services by some major players.  Here are a few examples[1]:  Burger King in Venezuela (in lieu of local hyper-inflated currency); Coca-Cola via 2,000 vending machines; Whole Foods for healthy and fresh groceries; and Starbucks for coffee and pastry.  This has a “coolness” factor that appeals to the young tech generation, but I would guess that a business that receives significant crypto inflows in its cash register will quickly hedge it like a hot potato.

The most famous example of Bitcoin approval is Elon Musk’s announcement on February 17, 2021 that Tesla had purchased $1.5B worth of Bitcoin in January and that the company would begin accepting Bitcoin as payment for all models of Tesla cars.  The price of Bitcoin skyrocketed.  How many of you thought at the time that it was a crazy idea?  Or did you think it was the beginning of the new Age of Crypto?

Well, that acceptance of Bitcoin did not last for long.  Last week on May 12, 2021 Musk reversed himself and announced that Tesla would no longer take the cryptocurrency as payment, citing environmental concerns.  The environmental concern is that Bitcoin mining consumes vast amounts of electricity produced from coal-fired plants[2], a fact that has not changed over the last two months.  Musk’s quick reversal was protected from mass criticism with a cover of environmental virtue signaling, while he still maintains a large position in crypto on the Tesla balance sheet.  Bitcoin has since dropped 25% over the last week, from the closing price before his announcement (May 11th to May 17th).

During the two months while Tesla was supporting Bitcoin, Tesla enjoyed huge gains from appreciation of Bitcoin.  How has that worked out for Tesla and Bitcoin investors as of today?  As of last Friday, Tesla stock is now down year-to-date by 19% despite its Bitcoin speculation contributing $100M to its first quarter profits.  Bitcoin remains up this year but down by 29% since its high of $63K on April 14th.  While all these shenanigans were going on, the S&P 500 has been up 13% year-to-date as the economy steadily recovers from the COVID pandemic.

The Long Arm of the IRS

As mentioned earlier, you can now buy coffee and pastry at Starbucks using Bitcoin.  But if you buy that Mocha Frappuccino with Bitcoin, then you owe capital gains tax even if it’s ordered “to go!”  The cost basis of the coin is its price at the time at which you bought it or mined it.

Since 2019, the IRS has included questions on Form 1040 instructions to determine whether or not you have had any cryptocurrency transactions.  It is mandatory to report bitcoin transactions of all kinds, no matter how small in value.  Indeed, the IRS sent warning letters to thousands of taxpayers it suspects of failing to report income and transactions involving cryptocurrency.  No worry, not this author!

The Wall Street Journal reports: “On the hunt for tax cheats, Uncle Sam is winning court battles to force cryptocurrency exchanges to reveal their customers. Your big unreported profits on Bitcoin, Ethereum or Dogecoin could translate into big problems with the IRS.”[3]   Businesses accepting cryptocurrency as payment must report gross income based on the fair market value of the virtual currency when it was received. Those businesses might also find it to be more trouble than it is worth as they could be called on by the IRS to track people paying in Bitcoin.

Crypto in Your Portfolio?

When would the Investment Committee consider including crypto in our recommended portfolios?  Not yet.  Our investment philosophy requires us first to understand a security’s intrinsic value, and secondly to establish that we are buying in at a fair price, before including it in your portfolio.  Cryptocurrency cannot meet these conditions yet.  My advice, if you feel a FOMO coming on, is to first take a deep breath.  Then, visualize a diversified portfolio that will attain your financial plan – and at the present time, cryptocurrency is not a preferred asset class in that portfolio.

Of course, I could be short sighted in my current evaluation of cryptocurrency.  After all, Elon Musk just announced that SpaceX had taken Dogecoin (another cryptocurrency) as payment for shuttling a satellite to the moon.[4]  Stand by.  I expect that it will soon be A-OK to use crypto to pay for a trip to Mars as well.

Sources

[1] Source:  https://www.insidermonkey.com/blog/15-biggest-companies-that-accept-bitcoin-915749/

[2] As noted in the 2018 article, a large volume of Bitcoin in mined in China, where 65% of electricity is generated from coal.  Source:  Wikipedia.

[3] The IRS Is Coming for Crypto Investors Who Haven’t Paid Their Taxes.  https://www.wsj.com/articles/bitcoin-irs-comes-for-crypto-investors-who-havent-paid-their-taxes-11620937095  

[4] SpaceX accepts dogecoin as payment to launch lunar mission next year https://www.reuters.com/business/finance/spacex-accepts-dogecoin-payment-launch-lunar-mission-next-year-2021-05-09/ 

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