World-Famous Scholar Calls Any Non-Option Bitcoin Short “Subjected to Blowup”
With the unprecedented rise of Bitcoin prices in recent months, Bitcoin short interest is rising. It’s not hard to envision why; with prices having risen up to 2,300% in 2017 alone, a protracted decline may offer the path of least resistance. There’s also a persistent belief among naysayers that Bitcoin has limited intrinsic value, making a collapse inevitable. Regardless of the reason for any contrarian disposition, Nassim Taleb has an important message for those wishing to bet against Bitcoin: don’t do it.
Lest you believe Nassim Taleb is just another talking head, think again. He is a world-famous scholar, intellectual, statistician, and Distinguished Professor of Risk Engineering at the New York University Tandon School of Engineering. Academic credentials aside, Taleb’s probably best known for his book The Black Swan, an iconic book about highly-improbable events which forever popularized the term. The book spent 36 weeks on the New York Times best-seller list and was hailed by The Sunday Times as one of the 12 most influential books since World War II. Taleb also predicted the U.S. housing bubble demise, earning universal respect among followers.
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Given Taleb’s pristine resume, his recent Bitcoin comments are relevant. Especially as we close out 2017 with Bitcoin prices having risen further and faster than any asset in history.
He made his comments abundantly clear in a series of tweets sent out this past weekend. He first addressed shorting Bitcoin directly, delivered in brusque fashion, which makes it appear he’s been asked the question 10,000 times before. Responding to the “repeated question(s)” of shorting BTC, Taleb decried, “There is NO way to properly short the bitcoin “bubble”. Any strategy that doesn’t entail options is nonergodic (subjected to blowup).” He then goes on to suggest that 100,000/BTC can’t be ruled out:
Bitcoin: my answer to the repeated questions.
No, there is NO way to properly short the bitcoin "bubble". Any strategy that doesn't entail options is nonergodic (subjected to blowup). Just as one couldn't rule out 5K, then 10K, one can't rule out 100K.
Gabish?— Nassim Nicholas Taleb (@nntaleb) December 9, 2017
He followed that up with a very prescient point regarding Bitcoin characteristics in the futures market. With trading on both Chicago Board Options Exchange (CBOE) and Chicago Mercantile Exchange (CME) beginning yesterday, market depth is shallow. With reduced liquidity in a commodity that already has less than 17 million coins in “circulation,” market manipulation is a possibility.
Very big point. Futures that don't have deliverables require a very, very deep market. Otherwise someone long the future can push prices higher at settlement time with impunity, by "locking" profits (never having to resell a deliverable). https://t.co/k1EbT2I7nv
— Nassim Nicholas Taleb (@nntaleb) December 10, 2017
Unlike many commodities trading on the futures market, both the CBOE and CME will settle bitcoin futures contracts only in U.S. dollars. With no product to “deliver,” contract holders need not worry about the constraints of physical product delivery. This removes a large pillar of stability which keeps buyers and sellers aligned.
Finally, Taleb finished off his tweet trifecta with perhaps his most prescient point yet: Bitcoin has few “natural sellers.” Like the old Wall Street axiom goes, “Never trade a dull market.” The reason is obvious: where there are few sellers (or buyers, for that matter), the market is rife for potential manipulation. That’s because an unusually large or sustained buy order could disproportionately move the market upward since there’s a lack of selling presence to provide the proper “resistance.”
Note that Bitcoin has a limited number of natural sellers. The entire concept is very concave supply (it costs more and more to extract). The number of producers shrinks with time.
— Nassim Nicholas Taleb (@nntaleb) December 10, 2017
It’s worth noting that down moves tend to be quicker and more abrupt that up moves, thus many buyers must be willing to sell simultaneously to affect directional change. If there’s a limited amount of “natural sellers” in the market, Bitcoin short conditions may not manifest themselves for a long time. And even when they do, timing the short may be impossible. Anybody who doubt this fact need look no further than the six-year melt-up in U.S. equities since 2012.
Does Bitcoin Have a Whale Problem?
Giving further credence to Taleb’s Bitcoin short warnings come from Aaron Brown, former managing director and head of financial markets research at AQR Capital Management. He states that only about 1,000 investors control 40% of the Bitcoin in circulation, giving them unrivaled leverage over the broader market. (Source: “The Bitcoin Whales: 1,000 People Who Own 40 Percent of the Market,” Bloomberg, December 8, 2017)
This creates a couple of problematic quandaries for potential Bitcoin shorts.
The first is collusion. Many large Bitcoin owners intricately know one another. Far from being a simple investment idea, the group shares a common interest born out of ideological alignment of what money should be. Could the “club” band together to manipulate prices higher should Bitcoin come under attack? We think so.
Remember, Bitcoin is less than 10 years old, and only about five years removed from significant trading activity. Unlike General Motors Company (NYSE:GM) or The Coca-Cola Co (NYSE:KO) stock, investor turnover is very small. Bitcoin investors will fiercely protect their pet project, barring severe unforeseen circumstances. The early adopters are usually the biggest diehards.
Secondly, some believe the “club” may be unwilling to sell their Bitcoin holdings, even at these elevated prices. Ari Paul, co-founder of BlockTower Capital and a former portfolio manager, stated that institutional holders, “have faith in the long-term potential of the coins” and, “don’t want to destroy either one” by dumping Bitcoin on the open market. Even when they do sell, firms will communicate their intentions to one another, often initiating off-exchange trades to avoid roiling the market. (Source: Ibid.)
Verdict
If he’s right, a Bitcoin short is the last trade an investor wants to initiate. A paucity of institutional selling, much of it done through “dark pools” in an already thin market is a bad idea. Even if the investor is correct about the short thesis, huge volatility would put undercapitalized shorts in danger of margin calls and liquidation.
Nassim Taleb recognizes that fact. It’s our hope that our readers do too. Bitcoin shorts desires will no doubt inundate some after its incredible run. But one mistake could cause serious financial damage to one’s portfolio.
In a pool full of sharks, the minnow never rules the tank.
