> With four parameters I can fit an elephant, and with five I can make him wiggle his trunk

- John von Neumann

The bitcoin stock-to-flow model has only three parameters: stock, flow, and price.

I'm not here to argue that the model is good or bad, but I will say that it's surprising, and interesting.

With 26.2 million, I can make the Mona Lisa wink (stylegan) :)

With 52.4 million, I can make her dance a jig.

What passes for "technical analysis" is rather insane, and isn't limited to the crypto community. It seems to grow around assets that are easily purchasable by the lay public, have lots of random price noise, and unclear fundamentals. Foreign exchange is another good example.

The stock-to-flow model posits a causal reason for the price: a roughly constant influx of money buying a declining rate of BTC production. This seems a lot stronger than technical analysis based on "fear and greed" psychology.

Exactly. Nothing about Bitcoin has changed... except the supply flow. Demand might adjust but it certainly won’t magically drop in half overnight.

“All models are wrong, but some are useful.”

- George Box

"And some are not"

-- Anyone who has watched people apply technical analysis to Bitcoin charts as a source of amusement over the last decade

Thank you. I have a very close friend that has been doing this for some time, and it’s really painful to see him lose money to those “forecasts” that resemble more astrology than science. I see from your profile you’re a Quant. Is there any guidelines I could give him? Any recommendations to go to the more “scientific” side of finance, and stop looking at charts and draw arbitrary lines to try to come up with patterns.

Sure, I can try. My thoughts on this actually come more from my experience in prediction market betting than my work, which is hard to apply at an individual level.

I think just properly accounting for wins and losses can be good at instilling a sense of humility; I'd recommend he calculate his track record if he hasn't already. I enjoyed the book Thinking in Bets by Annie Duke, which is about the psychology of developing some habits around making bets and the cognitive biases we have. A Random Walk Down Wall St. is also a classic that is good at instilling a sense of humility in you as an individual investor.

You could add that even winning strategies can be unceremoniously smashed against the rocks of market execution failures, especially in an unregulated space like crypto. I had to learn from personal experience: roughly a years’ worth of hard-earned arbitrage profits were wiped out in the aftermath of the 50% drop back in March, despite holding offsetting positions, due to uncontrolled liquidations plus a DOS attack on an exchange.

Basic economic theory and econometrics. Finance theory is just a thin layer on top of that.

What is a "quant", when referring to a person?

Quantitative analyst https://en.wikipedia.org/wiki/Quantitative_analysis_(finance...

Not that much more crazy than what you read about other stocks in terms of technical analysis.

I would say that depends. The macro trends have been pretty obvious.

most are not. =)

Predicting past performance with error bars measured in parsecs doesn't sound super useful to me.

I think the idea is that production has a real world cost (hardware, power, and space), and those costs determine the price (eventually)

That's literally backwards to how this works though. Just because you fire up a bunch of miners doesn't make Bitcoin's value jump - it's the opposite, Bitcoin's value jumping makes it cost-effective to run additional miners.

Its value is circular. Bitcoin miners provide social proof that someone, somewhere, is willing to burn $X to acquire a Bitcoin. That how intrinsically worthless items gain monetary value—social proof.

Firing up additional mining would split the rewards between more people causing fewer rewards per participant.

Miners engaged in mining before I arrived would have the same costs they had before, but now with fewer BTC to cover them, this would force them to sell at a higher price or operate at a loss until they drown the competition.

There are two ways to look at it.

Forced to sell at a higher price?

My dreams of being a millionaire are forcing me to sell this orange for a million dollars. Ergo, oranges will now retail for a million dollars.

That's a terrible analogy. Orange supply could be infinite should we maximize orange production, this is not how Bitcoin works.

If there were only 12 oranges produced on all the trees in the world every hour & it cost $500 an hour to operate your orange farm. You therefore have to sell your oranges for at least $42 to cover costs and make a small income

However now there are only 6 oranges produced every hour (not 12), what can you do to maintain profitability?

And if people don't value your oranges that much, you close shop. It is not going to make the people suddenly value your oranges more.

Except that oranges are consumption goods and can be produced in whatever quantity is demanded by expanding production.

Bitcoin production is perfectly inelastic, and Bitcoin itself has no consumption value. You need a different analogy.

"Force them to sell at a higher price" ... so they decide the market?

Nope.

Miners have costs to cover, mining unprofitably and holding makes no sense whatsoever (you're literally better off turning off your rig, buying on the market and holding at that point)

Turning off your rigs makes them an unprofitable investment you almost certainly are paying interest on if you're running a large operation.

Turning them on to acquire bitcoins at a higher cost to yourself than the market price just doesn't make sense, investment or not, it won't help you pay down your loan.

You're better off buying them from others at that point.

I wasn't trying to make a causal argument... just saying that the price to mine and the price of the coins will meet an equilibrium.

Nonsense.

First of all, you regularly consume items where the price is determined by demand, not production cost. Cars, housing, and premium products regularly sell for multiples of what they cost to produce.

Secondly, just because something’s expensive to produce doesn’t mean that it’s valuable to anyone else. This is a common problem in customized products, but also happens when market demand either fails to materialize or collapses. Your ultra premium buggy whip might be incredibly expensive to produce, but if nobody wants buggy whips you can’t sell it high enough to make a profit.

Good arguments, but irrelevant because Bitcoin is not a consumption good.

Mining is public evidence that someone is willing to burn $X in electricity to acquire a Bitcoin. For an intrinsically worthless monetary asset with no government support, social proof is the only real source of data on possible valuations. See also: Mises’ regression theorem.

> Cars, housing, and premium products regularly sell for multiples of what they cost to produce.

many multiples! this is incorrect. the luxury versions of those products you listed certainly have higher margins, but id be surpised if you could find anything with 100% proft margin, much less 3x and beyond.

I’ll admit that saying “multiples” was a mistake with that specific list, but you’re picking a nit that does not actually affect my original point.

No, it's not nonsense and you just kind of just proved the comment to which you are responding to.

Price is a function of supply and demand and because most markets are fairly competitive, the market-clearing price can be predicted roughly from the cost of production.

'Cars' do not sell at multiples they cost to produce, once you factor in all of the overhead of sales and distribution, margins are fairly thin. Those are 'real costs'.

Almost every single good ever produced is commoditized on some level, and therefore market prices are predictable from the cost of production.

BTC is no exception: if it costs $1 to make $2 in BTC, you can be sure a lot of people will be 'making' BTC until the cost of making BTC and it's market value start to merge.

The remaining demand for BTC ... given the fact it has no use, it's not a currency or a generally accepted store of value ... is speculative in the purest sense. It's whatever a bunch of dudes holding it want to buy and sell them as. Like baseball cards.

My original point is that market value cannot be driven entirely by cost of production. This is born out by items that are sold well above production cost, and things that cannot be sold because their high production cost is above what the market will bare. The implication being that saying “bitcoin is worth $X because we spent $X to mine it” is a nonsense statement.

What’s interesting is that you reinforced my point at the very end. Baseball cards are a fantastic example of a product that’s sold in a way that’s completely disassociated from the cost of production.

Except that Bitcoin really is worth $X because someone spent $X to mine it. There is no fundamental valuation: Bitcoin is made up Internet money. It is worth whatever people are willing to pay for it. Mining is public evidence that people all over the world (well, kind of) are burning money to acquire Bitcoin. Maybe those people are cranks, but they do have skin in the game.

No, people are willing to spend $x to mine bitcoin because they can sell it for $x, not the other way around. If I spend 2x as much mining bitcoin, the price doesn’t double. But if the price doubles, I can afford to spend 2x more mining it.

>BTC is no exception: if it costs $1 to make $2 in BTC, you can be sure a lot of people will be 'making' BTC until the cost of making BTC and it's market value start to merge.

Bitcoin is weird though because no matter how many miners there are, it's still minted at the same rate globally. If it cost a miner $1 to make $2 in Bitcoin, what would not happen is new miners joining and flooding the market with more Bitcoins until the price of Bitcoin falls. Instead, new miners would keep joining and the miners would be cutting into each other's profits until it cost them all approximately $2 to make $2 in Bitcoin.

Then you're saying people are acting irrationally or there are other non-marginal costs to consider (i.e. startup costs) in which case you're really saying it's >> $1 to mine a BTC.

But that's not really the point.

Let me put it differently: if it costs $1 to mine $1000 worth of BTC ... then, new miners will flood the market until the cost of mining reaches parity with price. This is not a BTC specific or controversial statement here.

The argument is that in most markets, this parity is reached by bringing the price down. For bitcoin, it is reached by bringing the cost up. More miners means it gets harder to mine, so it costs more.

>For bitcoin, it is reached by bringing the cost up. More miners means it gets harder to mine, so it costs more.

I think this is what you meant, but just to clarify: the cost of mining will go up, not the cost of Bitcoin. (Miners joining or leaving shouldn't directly affect the price of Bitcoin. The same number of Bitcoins exist and get minted regardless of the number or activity of miners, as long as it's nonzero anyway, so miner activity doesn't directly affect the supply and demand of Bitcoin.)

I believe you got it backwards. The price of bitcoin determines how much the miners are going to spend to produce it.

(Or we are both wrong)

Or your both correct. There are two sides to the coin. Miners are more likely to enter or expand in a profitable market. Profitability is measured by income - costs. Thus, costs -- in this case, electricity, real estate, equipment price -- set a long-term price floor for bitcoin.

They can be mined at a loss temporarily, in order to drive out competition, but at some point, a miner operating at a loss will go bankrupt. This is no different from the oil industry, where capital outlays so high that most players continue to produce at a loss, temporarily. But long-term, the price must at least match costs of production.

The cost of mining doesn't set a price floor. If the price of Bitcoin falls so that the revenue of mining falls below the costs of mining, then miners will drop out until the cost of mining falls enough too.

Bitcoin is minted at a predefined global rate; the amount minted doesn't depend on the number of miners. Miners compete with each other for a share of the predefined minting action, so some dropping out does not decrease the minting rate of Bitcoin, but instead makes it more profitable for the remaining miners.

It does set a price floor for exactly the reasons you say: miners won't operate below a certain cost of mining. Setting a price floor.

If Bitcoin's price fell so it becomes unprofitable to mine, that will not cause Bitcoin's price to go up until it is profitable for miners. Instead, what will happen is that miners will drop out until mining becomes profitable for the remaining miners.

That effect goes the other direction though. The price has to go up for people to bother to produce. If the speculation dries up a bit, the price won’t increase and this halve reward will wipeout miners with low margins and the remaining will still keep producing the same amount with a higher cost.

Remember, production is built right into the protocol. 10 miners could keep the network going at the same pace.

> Remember, production is built right into the protocol. 10 miners could keep the network going at the same pace.

A network with only 10 miners could easily be attacked with minimal effort. The only thing stopping the attacker would be the fact that it's a waste of time, because a cryptocurrency with only 10 miners is worthless.

Wiping out too many miners at once is dangerous business.

That's like saying the harder you work on a software product, the more you should charge for that product...

This is essentially the (discredited) labor theory of value.

https://en.wikipedia.org/wiki/Labor_theory_of_value

That's not a good illustration of LTV, which is not discredited at all. For traditional software, the vast majority of the labor involved takes place at the initial creation. The rest is (much less costly, in LTV terms) distribution and licensing.

There are some pretty well-mounted contemporary (i.e. last 20 years) defences of Marx's formulation of "the labour theory of value" (the terminology is up for debate, since Marx never used that phrase himself, and his theory is distinct from Smith's and Ricardo's) and the theory's normative conclusions. These defences come from philosophers and heterodox economists alike.

There's a Reddit comment here[0] with links to them, but it's up to you to decide if they're worthwhile or not. I have some doubts, but I would not go as far as to throw the word "discredited" in so casually. The comment also includes links to research against the "LTV".

[0] https://www.reddit.com/r/badeconomics/comments/fht0ti/marxs_...

The reddit post still describes an intrinsic value theory. All intrinsic value theories are discredited, not just this or that formulation of the LTV.

It's fairly trivial to reason from any given intrinsic value theory to absurdities, this is basically the foundation of marginalism and the last 150-odd years of economics.

Yeah... it’s sad, there is actually a really rigorous and sound theoretical core of economics that some incredibly diligent and thoughtful people came up with between 80-150 years ago. Sadly, most of this fails to make it into modern economics courses and is utterly absent from public economic discourse.

Somewhat ironically, the only people who still make discourse concerning value theory are heterodox economists and philosophers who disagree with marginalist value theory, and mainstream economists tend to have very little engagement with them, either in agreement or disagreement. The debate rages on (though much more quietly) with strong normative implications. Paul Samuelson himself was arguing the point in the 70s and 80s. The real shame is that people think these issues are at all settled in economics simply because many economists believe them, or don't concern themselves with them because of their abstractness.

I've had this argument before, as to what "intrinsic value" really means, and why the labour theory of value as advanced by Marx is not an "intrinsic value" theory; for Marx there were very few things truly "intrinsic" to history or value. Marx describes labour-value as having a "phantom-like objectivity". The question is not of being intrinsic, but of being objective. Almost all the authors cited in the Reddit comment are written after marginalism, and some even rebut the old marginalist arguments against theories of value like Marx's.

The fact that products have prices is an empirical fact; Marx's argument is that this fact is only one premise in his 'proof' (using the term loosely) of the "LTV". According to Marx, a good does not have "intrinsic value" any more than it has "intrinsic price". We still say that price determines what goods sell for (even if that sounds tautological).

You're right that intrinsic isn't really the right word, but the problem with pre-marginalist theories of value isn't that they're intrinsic per-se, it's that they're objective.

It's exactly that products do not have prices that is the problem. The apparent 'price' of a product is an epiphenomenon of a particular market, a side effect of the unequal subjective values of the participants (and it's trivial to observe that these clearing prices are determined at the margin, not on average, which makes aggregate LTV even wronger than the regular kind)

In a well-functioning market all products have clearing prices that are easily measured and compared to one another, but this is a mirage that requires constant arbitrage to maintain. The slightest change in unrelated market conditions turns dirt into ore or crude oil into toxic waste, with no objective change in the material itself, only changes in the subjective needs of the participants.

Which ironically is one of the underpinnings of Marxism.

Edit: it’s literally the second sentence in the Wikipedia article:

> LTV is usually associated with Marxian economics

The irony is in a Bitcoin investor and Marxists sharing some economic common ground for their beliefs, since otherwise those groups rarely have much in common.

Adam Smith believed it, too.

Isn't that supposed to be an equilibrium? As in, if the price of bitcoin increases (because the economy expands, assuming that it's the main currency) then miners make more money, so more miners enter the competition which means fewer rewards for individual miners and we're back to equilibrium?

Given this feedback loop, how do you establish what's the proper equilibrium? What's the total amount of hardware bitcoin is supposed to stabilize on? As a thought experiment, if BTC stabilizes at $30k, that means that the total value of all bitcoins will be about half a trillion dollars. How can that work if Bitcoin becomes the new dollar? Clearly the entire world ecomony is more than that.

Normally I'd assume that I'm missing something and the people who came up with that model know more than I do, but then again we're talking about cryptocurrencies so...

>As a thought experiment, if BTC stabilizes at $30k, that means that the total value of all bitcoins will be about half a trillion dollars. How can that work if Bitcoin becomes the new dollar? Clearly the entire world ecomony is more than that.

If people overall wanted to purchase enough Bitcoin to have more than half a trillion dollars in Bitcoin, then demand would outpace the supply and the price of Bitcoin would go up, making it possible to have whatever amount of value in Bitcoin. It's nonsense to presuppose the price of Bitcoin staying still while demand outpaces the supply. No one sets the price of Bitcoin but supply and demand.

Yes, I think you are right.

If the price were somehow fixed at $1000, the difficulty would eventually be adjusted so that miners would barely break even.

Same if the price were somehow fixed at $100,000.

Exactly, just like how workers get paid a salary in accordance with the real-world costs they bear in order to produce their output...er wait, this isn't how prices work is it?

So they are predicting a 70% drop in the value of usd in energy terms. Hmmmmm.