Breaking Down Bank of America's Assessment of Bitcoin

David Woo, Ian Gordon, and Vadim Iaralov recently wrote an assessment of Bitcoin's viability and potential for growth.

Their analysis was thorough, but it missed quite a few critical facts, so I'll take some time to address their points in line.

If you'd like to read the original document, you can find it here.

Here we go...

[Bitcoin's] high volatility, a result of speculative activities, is hindering its general acceptance as a means of payments for on-line commerce.


Money/currencies are generally thought to have three distinct roles: as a unit of account, medium of exchange, and store of value.

However, as a unit of account and store of a value, it has considerable shortcomings which we believe will ultimately hinder it from ascending to international currency status.

By "shortcomings" they mean volatility. The volatility is due to the fact that it's very young and the target of much speculation. As time passes and more financial instruments develop around the ecosystem, volatility will go down. As a result, Bitcoin will become a more attractive store of value (not just a speculative investment).

High volatility also undermines Bitcoin’s role as a medium of exchange as large retailers are much less likely to accept it as a form of payment with prices so volatile (Chart 6).

What they don't consider here is that almost all retailers that accept Bitcoin immediately convert the Bitcoin to fiat, which their Bitcoin payment processors (like BitPay) take care of automatically. Thus, the retailers never have to hold any Bitcoin and so are immune to the volatility.

A 50 minute wait before payment receipt confirmation is received will prohibit wider use. Fifty minutes is the time needed for enough additional blocks to be added to the chain to protect against double spending.

Let's get something straight. Bitcoin transactions go through immediately. The recommended 50-60 minute wait is the amount of time it takes for the transaction to be considered final and irreversible. Further, if your transaction is fairly small, you don't even need to wait any amount of time. Bitpay, for example, has instant confirmations because they're willing to take on the very very small risk that exists of a payment being invalidated.

On the other hand, when retailers accept credit card payments, they need to wait days for the payment to actually go through and weeks for the transaction to be considered final and irreversible. If the credit card company says "sorry that was a fraudulent charge," the retailer must foot the bill. Because of this, Bitcoin looks a lot more attractive to a retailer.

Bitcoins and gold have three important common attributes: neither pays any interest, the supply of both is limited, and both are more difficult to trace than most financial assets (except cash). The current outstanding value of gold bar/coins/ETFs is about $1.3trn. Can Bitcoin reach the same market capitalization as gold? We are doubtful.

First of all, Bitcoins are much more volatile than gold, which makes Bitcoins a riskier asset to own. Over the past two years, the volatility of Bitcoin has been on average five times higher than that of gold (Chart 9). All else being equal, this means Bitcoins are five times riskier than gold. Unless Bitcoin volatility declines sharply or gold prices increases sharply, it is reasonable to think that it will be difficult for the market capitalization of Bitcoins to go above $300bn.

If we were to assume that Bitcoin were to eventually acquire the reputation of silver (which is an extremely ambitious assumption), this suggests that Bitcoin market capitalization for its role as a store of value could reach $5bn. By the way, $5bn is not too far from the current value of total US silver eagles minted (since 1986), in our view probably the most relevant comparison to Bitcoin, that is around $8bn (12k tons).

Bottom-line: maximum market capitalization for Bitcoin’s as a store of value = $5bn

What we just witnessed is a bunch of handwaving.

They dismiss Bitcoin as potentially reaching gold's level, solely because of it's volatility. However, as I mentioned before, the volatility of Bitcoin is only a temporary property and not an inherent one. Bitcoin is only 5 years old and there's a very good chance that the volatility will decrease over the next few years.

Once we realize this, we can no longer count Bitcoin out as a store of value with the potential to reach gold's level.

And if Bitcoin can act as a store of value as useful as or more useful than gold, then BoA's entire analysis breaks down and their target price of $1300 is severely undercutting Bitcoin's potential.