Is Bitcoin In A Bubble?

As the crypto-currency Bitcoin reaches spectacular new highs on dramatically increased levels of volatility, traders and investors alike are questioning whether it’s a good idea to trade this asset or whether now is the time to stay to the side before it devalues. Most of the debate is focused on whether Bitcoin is in a bubble, and whether it is viable as a long-term investment. I ask whether it is possible to put a fair value on Bitcoin, what factors will affect its market price, and what traders should be looking at before they decide to get involved in trading Bitcoin.

What is a Bubble?

My preferred term for what is often known as an “asset bubble”, “price bubble”, or “investment bubble” is “speculative bubble”, because invariably, the peaks of these bubbles are caused by very intense speculative activity. A speculative bubble occurs when an asset is far, far above anything close to what its real (it might be better to say “sustainable”) value might be. A better way of describing it might be to note that because all speculative bubbles burst, a bubble can be defined as an asset rising exponentially to extremely inflated prices and then crashing down and settling at a level which is far less than its original price (typically a fall of 75% or more). A speculative bubble is characterized by both the rise and fall, particularly the fall, taking place over brief time periods.

The economist Dr. John Paul Rodrigue produced an excellent diagram (shown below) illustrating the typical progress of a speculative bubble, not only by time and value, but in terms of the psychological state of actual and potential market participants.

Let’s compare the above diagram to a current daily price chart of Bitcoin in U.S. Dollars:

A case can be made that, at the time this article was written, Bitcoin is somewhere around the “Denial” stage just after “New Paradigm” from Dr. Rodrigue’s diagram, which the chart seems to match closely. It is a case worth considering, as if incorrect, Bitcoin might still be worth buying, while if it is true, a short sell could be a great trade. Of course, a better option for you might to be not to trade Bitcoin at all, but what Bitcoin is and how it works is something that must be fully considered before any call can be made on whether it is in a bubble.