CIBC Equity Research: The Epic Rise Of Bitcoin; But What About The Supply?

With Bitcoin blowing through $10,000, I thought I would share this interesting report from Stephanie Price and Varun Choyah of the CIBC Software & Services Institutional Equity Research team.  I certainly don’t mean to make a bullish case about Bitcoin, but the quickly-reducing nature of newly-mined coins will serve as an argument for devotees that we are seeing a floor, not a ceiling, on this thing.  That market gatekeepers CME and NASDAQ are embracing it provides a certain legitimacy to a phenomenon that some say has the hallmarks of a pyramid scheme.

The Epic Rise Of Bitcoin; But What About The Supply?

Bitcoin took the spotlight this week as the price of the cryptocurrency surpassed the psychological watermark of $10,000. While news headlines focus on pricing action, we take a look at the supply situation. Bitcoin leverages computational puzzles (that use cryptography) to regulate the creation of new currency units and uses secure timestamping to record the transaction on a distributed ledger and prevent double spending. The bitcoin protocol predefines the rate at which the digital currency is created. Essentially bitcoins are created each time a user (miner) verifies a new block. Any currency that is generated by a malicious user that does not follow the rules will be rejected by the network and thus is worthless.

The first block in the bitcoin blockchain, called the genesis block, was mined on January 3 2009 by its creator Satoshi Nakamoto. The genesis block generated 50 bitcoin rewards and the protocol dictates that this initial reward cannot be spent by anyone. The number of bitcoins generated per block is set to decrease geometrically, with a 50% reduction every 210,000 blocks, or approximately four years. As a result, the supply of bitcoin will be capped at 21 million coins, with more the 75% of the intended bitcoin supply already mined.

As the rate of new token creation decreases, the incentive to mine also decreases. This is offset by transaction fees, which are voluntary but incents a miner to confirm a block of transactions. On average it takes 10 minutes to confirm each block of transactions but in some cases it could take longer depending on the hashing power of the network (the rate at which miners can solve the cryptographic puzzle.

17% to 23% of existing bitcoins are lost, according to estimates by Chainalysis. It is estimated that Satoshi Nakamoto may have mined over 1 million coins during his years within the bitcoin community. This is considered “lost” in that it remains out of circulation and unlikely to be used. In addition, early miners and investors may have forgotten/lost the private keys to their bitcoin wallets and/or had their hardware wallets physically damaged without a backup. As a result they would never be able to access their bitcoins.

Together this represents ~4 million of bitcoins lost from the current 16+ million supply available.

So, 75% of all available coins have already been mined.  Of those 16+ million units, about 4 million have apparently been lost.  Compare that to the traditional safe haven of gold, which continues to be mined around the world.  Could it be that Bitcoin will eventually become the da Vinci (as in “Leonardo’s not painting any more works of art“) for certain “value storage” use cases?

This is hard to imagine for many, but someone sold U.S. dollars yesterday and took back an electronic certificate on the assumption that it could be true.

MRM