Making Sense of Bitcoin Since the Latest Crash

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By now anyone who is so much as curious about Bitcoins has probably heard about its latest roller coaster of a ride in value. The latest price drop for the cryptocurrency has brought it more attention than ever by the media, and making sense of it all depends on whether you see Bitcoins as a investment in themselves, or as indirect opportunities to invest.

What happened

On Dec. 5, China's central bank issued a warning about the usage of Bitcoin as a currency against the country's own yuan. As part of this warning, Chinese Bitcoin exchanges such as BTCChina were required to stop all deposits in yuan to their exchanges, making it nearly impossible for newcomers to Bitcoin to be able to invest their yuan into the cryptocurrency.

This statement by China's central bank was seen as a major blow to the confidence of Bitcoin and comes with continuing skepticism for the coins. Since Bitcoin has no backing by a nation or a tangible good like gold, it depends on demand and interest to continue being a successful and valuable commodity. The coins themselves themselves are not banned in China, but with the latest surge in Bitcoin popularity coming due to huge demand in China, this action by China's central bank has contributed to the crash in Bitcoin's value, a $1,200 per coin peak dropping down more than 50% to $572 per coin.

Since the crash Bitcoin has hovered around $650 to $700 a coin, a 40% drop in value from its peak. Many have been vocal in their criticism or support of Bitcoins, some knocking them down as a fruitless and unreliable venture, others holding their positions and supporting the currency. However, we have to look through the sensationalism by either side and make sense of the data to figure out just what the next few months hold for Bitcoins.

Making sense of the data

Bitcoin's value is undoubtedly volatile. As a direct investment, the currency looks unpredictable and unrealiable, but in reality, Bitcoins can tell whatever story you want, depending on if you're looking just a month back in value, three months, six months, and beyond. The story will also change if you are analyzing performance by the sheer price of Bitcoin or other performance factors, such as market capitalization, transaction rate, and so on. Here's a chart showing the performance of Bitcoin over the last month as a percentage of growth or decline:

As you can see, Bitcoin is steadily sitting around a 20% to 40% decline in value. This is where the currency has remained since dropping in the beginning of December.

Now let's look back three months:

Suddenly things look a lot more optimistic -- the currency is up an impressive 400% since late September, and despite a major crash, is a winner for anyone who had jumped in before December.

Now let's go back two years, and as opposed to a percentage of growth let's just show the true value of the currency so we can see a very long-term picture of Bitcoin:

This may show a very promising picture to some, due to the sheer growth of Bitcoin, but it also shows just how young Bitcoin is as a significantly valuable currency. Before March Bitcoins sat around $10 to $20 per coin in value, a far cry from the $700 even today, let alone the $1,200 peak valuation. The concern of volatility for investing in Bitcoin is clear here because we're in uncharted territory: Bitcoin only became a serious currency about nine months ago. 

Against almost any other direct investment, Bitcoin looks extremely valuable and tempting, but it remains volatile. However, these charts still show the great potential Bitcoin has as an indirect investment.

Assessing indirect value

Bitcoin's success -- and its potential as an indirect investment -- depends not on the actual value of Bitcoin alone, but instead on the popularity of Bitcoin as a type of currency and the firms that choose to invest in it as a payment method or as a resource.

As the value of Bitcoin has grown, so has the number of businesses accepting it as a payment method. While examples of buying a Lamborghini or a Tesla with Bitcoins are interesting, its growth as day-to-day way to purchase goods is more important. One popular payment processor for Bitcoin, Bitpay, has seen tremendous growth, with more than double the number of transactions between October and November alone. Bitpay also recently partnered with gift card purchaser Gyft, allowing Bitcoins to be used to purchase gift cards for hundreds of major retailers. Bitcoin is beginning to see feasibility as a currency. 

Another major retailer that expressed interest in using Bitcoin as a payment method was the online retailer Overstock  (NASDAQ: OSTK  ) . Overstock's CEO mentioned on Dec. 21 that the company would consider the currency as a payment method sometime in mid-2014, which brought the stock up nearly 8% by the end of the day.

The story about Overstock however is just the beginning. Over the last few weeks a number of other firms have expressed interest in the technology and methodology behind Bitcoin, such as JPMorgan Chase  (NYSE: JPM  ) and a number of small start-ups. JP Morgan has already filed for patents to design a currency system much like Bitcoin that uses digital wallets and payment. Sites like Coinbase and even BTCChina have seen $31 million and $5 million, respectively, in funding. Bitcoin's market capitalization is over $8 billion. You don't have to buy Bitcoin to invest in Bitcoin, and there are many ways to reap the benefits of the currency without engaging in its volatility.

Thinking like a long-term investor

Bubbles happen. It's the nature of the financial beast. Bitcoin's latest crash looks like a bubble to some and like just desserts to others. As a direct investment, Bitcoin is hard to predict since we just don't have a lot of financial history for the currency. Looking at the potential though shows immense opportunity. While you may not yield a 1,200% return by investing in the firms that invest in Bitcoin, it still offers a fruitful chance to take advantage of the budding cryptocurrency.

The idea here is to keep your eyes above the sensationalism and on the facts that show how much Bitcoin has affected the financial world in such a short time. Most of all though, Bitcoins just aren't going anywhere.

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