Bitcoin as a real asset

Welcome back. It’s interesting how we talk about abstract terms without ever thinking carefully about what they mean. We rattle on about real assets all the time. But what counts as one? Suddenly I’m not certain. Email me: robert.armstrong@ft.com

Is bitcoin a real asset?

Several readers pounced on me when I wrote this comparison of gold and bitcoin a few days ago:

The gold price tracks CPI inflation, if at all, in a slow, irregular way. They both rise over time, but the relationship is uneven. Gold is a real asset, and there is a fixed quantity of it, and people have liked it for millennia, and so it has held its value . . . 

. . . bitcoin is a real asset, and there is a fixed quantity of it, and people have liked it for a few years, and so it might hold its value, for all we know. But there is no particular reason to describe it as an inflation hedge. If it correlates to anything, it correlates broadly to speculative appetite.

What on earth did I mean calling bitcoin a real asset? Most definitions of real assets are based on the distinction between intrinsic or tangible value, on the one side, and contractual or financial value, on the other. Stocks, bonds, and currencies belong on the contractual/financial side. Oil, real estate, industrial metals and gold are on the real/tangible/intrinsic side.

So if you think bitcoin is a currency — and it says cryptocurrency right there on the tin — then bitcoin is not a real asset. But the name may be deceptive (I have already argued the case for bitcoin being closer to an equity, or an equity option, than a currency).

One might argue that the whole point of bitcoin is that it is not contractual. Unlike traditional currencies, it does not represent an obligation to anyone in particular. It is not a liability of a central bank. It is a counter in a digital ledger that doesn’t belong to anyone; a piece of a collectively regulated payment infrastructure.

Bitcoin’s non-contractual character is part of the reason many of its fans think it will prove to have some of the crucial virtues of real assets, namely inflation protection and low correlation with financial assets. It is referred to as “digital gold” not just because both bitcoin and gold enjoy limited supply, but because neither one’s value depends on the behaviour of a financial institution, government, corporation, or individual. Bitcoin is not a contract, it is a tool. Yes, most real assets up until now have been things you can touch. But why should that be their defining characteristic?

Edward Finley, finance professor at University of Virginia, wrote to argue that the only defining characteristic of real assets is high correlation with inflation. The opposite of “real”, in other words, is not “financial” or “contractual” but “nominal”.

The only things that have consistently provided this robust inflation correlation are real inputs to the productive economy (farmland, oil, mineral rights) or infrastructure assets that facilitate the productive economy (toll roads, pipelines, commercial real estate). On Finley’s definition, even gold is not a real asset. Bitcoin, he points out, is certainly not an economic input, and cannot be considered infrastructure “unless you buy the fantasy that it will replace central bank currencies”.

But perhaps bitcoin doesn’t have to replace central bank currencies to become economic infrastructure and, therefore, a real asset?

Another reader, Dimitris Valatsas of Greenmantle, took an even harder line. He thinks that the value of bitcoin will turn out to be negatively correlated with inflation. He wrote that:

Bitcoin is a frontier asset, and the preferred destination for excess liquidity during our current liquidity cycle. Inflation will cause the Fed to hike, which will end the liquidity cycle and hurt Bitcoin more than other assets. It’s not just *not* an inflation hedge. It will get hammered by excess inflation. Crypto bros completely miss this.

How good are earnings so far?

As of Friday, third-quarter earnings growth among S&P 500 companies is 33 per cent, compared with the year-ago period, according to FactSet. A bit less than a quarter of the index had reported as of the end of last week. That sounds like fast growth, and if it keeps up, S&P 500 earnings per share will be over $50.

Here is a chart of quarterly earnings since 2008, with the current quarter estimate in green, and the estimates for the next five quarters in maroon:

Good chart! As I often say: buy US stocks — their earnings go up! But sharp-eyed readers will notice that even if earnings do hit $50 this quarter, that’s lower than the first quarter. So that 33 per cent growth from a year ago is a bit deceptive. We are still making annual comparisons to the bad days of the pandemic, which obscures the true current trend. Here is year-over-year (green) and quarter-over-quarter (blue) earnings growth over time. The current quarter is marked by the red line, so everything after that is a consensus estimate:

Sequential earnings growth has already returned to the low single-digit range where it usually hangs around. Annual growth will return to its normal high single-digit range in another couple of quarters. Yes, energy and materials companies are killing it, but earnings in the (bigger and more important) consumer staples and consumer discretionary sectors that did so well during the pandemic are slowing down fast. This is an awfully simple point, but don’t be fooled by the headline numbers. Earnings overall are pretty good, but not great.

Another point on this. Lots of companies are beating earnings estimates — and doing so by a healthy margin — which is the form of good news Wall Street focuses on. Look at this chart, from Ryan Grabinski of Strategas, of the portion of companies beating analyst estimates:

Look at the up-and-to-the-right trend over time. This seems unlikely that this is a chart of companies increasing their earnings power over time to the great surprise of analysts. It seems much more likely that it is a chart of analysts getting more conservative in their forecasts, for whatever reason. If that’s right, we should probably not get too excited about companies easily clearing a bar that is getting lower as the years pass. Ignore the noise about earnings beats, if you can. Only the misses tell you anything at all.

One good read

A fascinating observation from Ruchir Sharma in the FT: emerging markets that went big on fiscal stimulus during the pandemic got little or no apparent economic benefit.

The impact of stimulus . . . may now be overwhelmed by factors unique to the pandemic, including the global impact of huge stimulus in the US and other developed countries, and the continued fight against the virus . . . Moreover, overspending often backfires.

That backfiring takes the form of inflation, a weakening currency, higher rates, and high deficits in countries like Hungary, Brazil and the Philippines: “Nations that spend in haste are often forced to repent at leisure.”