Why Bitcoin Stocks Like MicroStrategy and Riot Blockchain Were Up This Week

What happened

The price of Bitcoin (CRYPTO:BTC) was about $38,400 as of 12:45 p.m. EDT on Thursday, according to CoinDesk — up sharply from its weekly low of about $35,000 on Sunday. There were two big news items for Bitcoin over the past week. The first concerns a social media post by Tesla CEO Elon Musk, which may only be a short-term catalyst. However, the Bitcoin blockchain is also now officially scheduled to receive an important upgrade, which could be a more long-term demand driver.

However, it’s not as though technology company MicroStrategy (NASDAQ:MSTR) needed any more reasons to buy Bitcoin. The company is already taking on as much debt as it can to buy more and more bitcoins, as we’ll see in a minute. And considering how much it owns, it’s not surprising to see its stock rise with the price of Bitcoin in recent days. So far for the week, MicroStrategy stock is up 21%.

And with the price of Bitcoin rising, stocks that benefit from mining are also up for the week. As of this writing, Riot Blockchain (NASDAQ:RIOT) stock was up 13%, Canaan (NASDAQ:CAN) was up 8%, CleanSpark (NASDAQ:CLSK) was up 9%, and Ebang International Holdings (NASDAQ:EBON) was up 13%.

So what

First the short-term catalyst for Bitcoin: On June 13, Musk said Tesla would start allowing Bitcoin as a method of payment again on two conditions. First, he wants to be sure at least 50% of the energy used to run the Bitcoin blockchain network is coming from clean energy sources. Second, he also wants to see Bitcoin trending in a greener direction.

While Bitcoin popped around the time of Musk’s comments, it’s important to note that most people aren’t using Bitcoin to pay for things like they would with fiat currency. In part, this is because cryptocurrency investors believe Bitcoin will increase in value over time. Therefore, it doesn’t make much sense to spend it. That’s why I see Musk’s support as a short-term boost for Bitcoin.

But what if people did want to digitally transact more with Bitcoin in the future? That could be a problem. You see, right now Bitcoin is limited with how much volume it can handle, and normal payment volume for an entire economy would be too much. This is due to how information is processed and recorded on the blockchain. 

On June 12, Bitcoin developers and miners took a big step forward in addressing this scalability problem. Developers have come up with a package of upgrades for the Bitcoin blockchain called Taproot. But developers only propose ideas — miners have to signal support for the proposals by putting a marker on the blocks they process. Once enough miners have “voted” in favor of changes, the blockchain network is ready for the upgrade. And on Saturday, over 90% of miners had signaled support for Taproot, the support level needed to make it happen.

According to many developers, the Taproot update should go into effect for Bitcoin in November. Important changes include the ability for speedier transaction processing — basically the data on the blockchain should get smaller, making it speedier and less energy intensive. But also, Taproot will allow developers to build onto the Bitcoin blockchain like they already can on blockchains like Ethereum, which could be a game-changing update.

Now what

Taproot will give Bitcoin new use cases that could drive greater demand and send prices higher. And without a doubt, that’s something MicroStrategy shareholders are hoping for. The company currently holds over 92,000 bitcoins and on June 14 it issued $500 million more in convertible senior notes to buy even more Bitcoin. This management team is clearly betting the farm that Bitcoin will go up. And MicroStrategy could be in a tough place financially if that doesn’t pan out.

The ripple effect that Taproot could have for Bitcoin miners is unclear right now. We often discuss how miners are rewarded with 6.25 bitcoins for every block they mine — this is one way companies like Riot Blockchain and CleanSpark make money. But miners also make money from transaction fees, which have spiked significantly higher over the past year.

Bitcoin Average Transaction Fee data by YCharts

Transaction fees have fallen sharply in recent weeks but are still historically high at over $6 per transaction. If Taproot speeds things up, fees could plummet even further, resulting in less revenue for some of these mining companies. That said, it’s all relative since they’re paid in Bitcoin, not dollars. Simply put, there’s a lot of variables in play making it hard to predict what revenue will look like for these companies.

What’s more certain is Bitcoin miners continuing to increase their computing power, creating a booming business opportunity for Canaan and Ebang. These two companies manufacture equipment for mining cryptocurrencies. But just because miners are purchasing a lot of equipment right now doesn’t mean investors interested in this space can be indiscriminate in what stocks they buy. For example, Canaan continues to update shareholders about the new orders it’s receiving. On June 16, the company announced it had just received a new order for 10,000 mining machines from Genesis Digital Assets. It’s just one of several deals Canaan has announced in recent weeks.

By contrast, Ebang’s revenue fell 83% year over year in 2020 as management noted weak demand for its mining machines — for perspective, that’s not much worse than Canaan’s 69% decline in 2020 revenue. But since the release of its annual report in April, Ebang shareholders haven’t been updated on whether sales are picking up like Canaan’s are. Therefore in conclusion, like with all investing, you can’t just invest in a trend. You also want to invest in the real-world businesses that are taking advantage of their opportunities the most, as evidenced by their results.