Why Bitcoin Has Value

(not investment advice) Bitcoin is clearly the most controversial topic in financial markets today.  The rise in price of Bitcoin has been nothing short of astounding, as it flirts with $7500 per coin just a mere eight and a half years after it’s creation.  While many investors (Jamie Dimon) have lambasted it as nothing more than a phony mirage of bits and bytes masquerading as “currency,” there are an equal number who see it as a truly revolutionary investment in the future of money and trustworthiness in transactions.

One thing is certain: Bitcoin’s very existence has brought to the public a question that philosophical and economic eggheads have been discussing for centuries, if not millennia – what constitutes a currency?  Aristotle’s stipulations for the requirements of currency stated that it must be durable, portable, divisible, and possess intrinsic value.  Bitcoin clearly possesses the first three and the fourth one is the point of contention among critics.  Bitcoin, they say, has zero intrinsic value.  However, intrinsic value in and of itself is a very nebulous concept, as currency is different from human necessities such as water, food, and oxygen.  Currency does not need to be water, food, or oxygen, only a source of confidence in exchange.  The currency itself is simply a means to an end in the sense that it is a tool for barter.  Going one step deeper, critics argue that gold has value as a currency, but it also possesses intrinsic value in that it is a shiny and cool element.  However, purchases of gold unrelated to currency uses only make up about 3% of all transactions.  To say the gold price holds stability due to it’s value purely as an object of desire is overwhelmingly false.  97% of gold transactions are conducted because gold is a reliable source of monetary exchange value.

Here’s one more concept to understand: obviously Bitcoin is not widely used as a currency and it probably never will be.  While a very small fraction of companies actually accept it as payment, it is clearly too volatile to be widely used as an alternative payment.  Furthermore, all payments in Bitcoin are clearly converted back into dollars at some point in the future.  Once again, this is not really a concern.  Gold is clearly not an acceptable form of payment at almost all merchants and just like Bitcoin it must be converted back into taxable currency.  However, that does not stop us from buying it.  What gold provides is a safe haven of value for wary investors.  This is where we approach the fundamental truth about currency: currency is confidence.  If the fiat monetary system isn’t doing the job, something else will.  And if a currency has a fixed scarcity, which is a central tenant of Bitcoin’s existence, scarcity will drive up price for something that has an increasing demand.

So there you have it.  Bitcoin is valuable.  Is it a currency?  Kind of… more like a speculative currency.

How the Hell do We Make Sense out of Oil Prices?

It may come as no surprise that oil prices are plunging.  40 dollar oil would have been almost unbelievable even as recent as 2014.  The benefit to consumers is obvious: lower prices at the pump lead to more savings for consumers.  However, those low prices are decimating the oil & gas industry.  Layoffs at U.S. energy sector companies totaled over 100,000 in 2016 compared to just over 14,000 in 2014 and a similar range back to 2010.  Additionally, oil and gas companies made up 50% of worldwide corporate defaults in 2016.

Most people are aware of the global supply glut that has made prices plunge, but what other factors have driven such unprecedented low oil prices?  The issue turns out to be symptomatic of the “malinvestment” described by the Austrians for many years.  That is, at historically rock-bottom interest rates determined by a centralized maestro, investments are inevitably allocated to the wrong sectors of the economy, driven by misaligned pricing signals.  In the case of the oil & gas sector, low interest rates drove investors to yield-bearing projects, such as shale oil discovery.  While the technology in this sector has improved tremendously, these projects are without a doubt some of the most financially risky endeavors.  Junk bonds in this sector yield above 11-12%, but are typically rated below BBB-. In fact, just last year 10 of the largest US energy companies were downgraded, with companies like Marathon Oil and Hess earning a BBB- rating.

The hemorrhaging of the industry won’t stop anytime soon.  Rock-bottom prices will continue to send the weakest companies into default.  Rising interest rates will make the cost of borrowing more expensive, tightening the credit market for wildly ambitious oil companies.  Depending on the stage in the bull market’s life cycle, prices will probably begin to re-stabilize in the short-term if rig counts begin to fall precipitously, signalling a decline in supply.

U.S. horizontal gas rig counts are up an astounding 143% y.o.y., likely indicative of the preparation oil companies have made to make shale oil profitable at $50 per barrel:

“Torgrim Reitan, Statoil’s head of United States operations, said in an interview that the company’s push for the lower break-even price is largely due to internal improvements that should stick regardless of any price hikes from service providers.

“Our business clearly makes sense in a $50 (per barrel) environment,” Reitan said Monday on the sidelines of the CERAWeek conference, the world’s largest gathering of energy executives. “It is remarkable to see how the whole industry has responded positively to the new price reality.”

Statoil, which produces shale oil and natural gas in North Dakota’s Bakken, the Eagle Ford of Texas and the Marcellus of Pennsylvania, moved its U.S. operational staff to Austin, Texas, last year, a step Reitan said has helped push down costs.

The company’s U.S. shale oil break-even price stood at $66 per barrel at the end of 2016, a 35 percent improvement from the prior year. That should drop to $50 by 2018, he said.” (source: Reuters; Statoil sees U.S. shale profitable within two years at $50 oil; March 6, 17)

Despite incredible strides in the way of efficiency and extraction innovation, the unexpected plunge to $42 oil is unlikely to keep these companies profitable.  As rig counts continue to increase, we will continue to see oil prices slide until another wave of  corporate defaults and layoffs starts to sweep in.

Automation Isn’t Wrecking the Economy, Federal Monetary Incompetence Is…

Recently I’ve been reading a number of articles surrounding technology and the impending takeover of our jobs by machines.  It’s a concept that has existed for many years and is a natural fear for many humans.

Fortunately (and also unfortunately), the concept is just not true.  I can’t even begin to think of what it would take to replace many of our jobs.  Any job involving strategic insight, engineering, and satisfying customers requires significant human input.  Enhancing machine capabilities still requires the human input while improving what can be extracted from information.  Okay, so let’s take another, more basic career: steel worker.  China employs almost 12 million people in the coal and steel manufacturing sectors alone.  At the height of the 2000’s economic bull market in America (2006-2008) a mere 2.5 million people were employed simply in the manufacturing industry in the entirety of the United States.  Now, China IS making a push to cut steel jobs, but this is due to an overcapacity or glut of steel, not automation.  The point I’m trying to make is that automation is not something we should be worried about.

-Our fears should be focused on the absolute chaos and ineptitude that has taken over the global financial system, not technology and automation-

Automation has been happening since the beginning of time, which is probably the reason people still had jobs once things like the printing press were invented to replace scribes and automobiles were invented to replace horse-drawn carriages.  The misconception that automation is stealing our jobs avoids the all-too-important topics of monetary inflation and outsourcing due to excessive government regulation, both of which have caused the plight of a hollowed-out middle class and rusty, empty factories in the United States.

I’m not alone in this educated belief.  Peter Thiel, noted Silicon Valley investor and entrepreneur, believes the same thing.  Government is the cause of our woes.  Dollar inflation has turned healthy economic theories on their back and led us to vilify capitalism as workers chug along trying to afford increasing prices in real estate, food, stocks, and college tuition.  The Federal Reserve and US government selfishly print money and run up the national debt, respectively, that flood the global market with dollar-denominated liabilities to pay for increased consumer spending.  The government believes it can prevent recessions from ever occurring by forcing US consumers to spend money.  The funny thing is that government actually creates these recessions in the first place through over-speculation and spending!  As a farmer prods his sheep to move, so does the US government prod it’s citizens into spending and avoiding savings.  This is not only happening in America, but in nearly every nation around the world.

-Innovative deflation made us kings-

Innovative deflation is the core and essence of capitalism.  The period of growth in America from the late 1790’s to about 1913 was the most successful and wealthy era in modern history.  During this era, goods were cheap, wages were high, and there was no monetary inflation.  There was no income tax and virtually no regulation on businesses (although we now realize that some regulations are healthy).  A little known fact is that Standard Oil was so successful in providing cheap oil to consumers, that it was making competitors angry at the lack of potential business.  Thus, out of jealousy and spite, crony capitalism and lobbied monopolies were born.

Entrepreneurs find ways to make goods cheaper for consumers while increasing profits that allow for more entrepreneurial investment.  This is the beautiful cycle of capitalism that has been nearly thrown in the trashcan by global central bankers.  If this is not true, tell me why computers have become so affordable that they cost less nowadays than many driver’s license registrations?  Computers and electronic technology have managed to avoid inflationary pressure because of the fact that companies have been so effective at reducing prices in spite of inflation.  The idea of capitalism is to make life easier to the point where work is more productive than ever, less laborious than ever, and goods are cheaper than ever.

-How should we react to technological changes?-

While technological changes don’t evaporate the need for human labor, they will shift human labor.  Look back to history when people were employed in positions that are utterly useless nowadays.  When was the last time you saw someone employed as a carriage wheel manufacturer?  Aside from your local Amish family or Queen Elizabeth’s carriage manufacturer, this career is utterly unnecessary.  We train people to be flexible with changes in technology.  This is a constant throughout human history.

 

I was Wrong…

I was wrong about oil & gas innovation:

I will come out cleanly and admit it: I was wrong.  I remember two or three years ago I was writing about how high gas prices are the new norm.  While this may be the general trend over a very long time span, I believe the level of ingenuity and innovation in the oil sector recently is astounding.  In response to a global supply glut, shale oil drillers have responded accordingly by tightening their operations.  What we thought of as an industry that required 90 or 100 dollar/barrel prices to survive, is now learning how to be profitable at 50 to 60 dollars/barrel.  A mixture of both newer generation rigs and maximizing efficiency on many different fronts has allowed this industry to stay afloat in an era of excess global supply.  The shale oil drillers in America have made their message clear that they plan to compete with the low-cost Saudis and Kuwaitis.

Please read an article here for further information:

https://next.ft.com/content/f363e688-dbe4-11e5-9ba8-3abc1e7247e4

Am I still right about the renewable energy movement?

My optimism about renewable energy has been muffled in recent years because I believe that sustained, profitable growth for these companies will be very difficult.  For being part of the so-called “energy revolution,” renewable sources are mostly unprofitable and dependent on non-renewable grid structures and sustenance.  Many solar companies are growing, but not profiting.  Now, the one exception that I know of is First Solar, a company that has posted solid profits over the last three years and has continued to drive lower cost structure through polycrystalline solar panel production.  Polycrystalline cells are inferior to monocrystalline cells, but have lower production costs.  Despite that, First Solar is an outlier in the industry.

Renewable energy needs to develop without the influence of government subsidies and regulation.  Under the current structure, capital is misallocated to projects that are unprofitable without subsidies and net metering.  Solar companies have attempted to extend financing to low-income buyers through power purchase agreements that use base-load power from the existing grid structure.  The cost of purchase does not accurately reflect the price of solar energy to these buyers.  The growth of solar would be much richer and healthier without those subsidies and poor pricing signals to buyers.  The market for wealthy homeowners who want to live “off the grid” should not be underestimated.  Not only is it a clean form of energy, but it has value in case geopolitical conflicts, economic crises or unprecedented natural disasters take place.

A Libertarian Response to Pollution, Pt. 2

I was watching a video last night on Vice TV, which is the YouTube channel of the media outlet known as Vice Media.  The video had something to do with a “petcoke” plant in Chicago where people were protesting over the massive mountains of petcoke soot building up in the area.  Understandably they were pissed as hell.  Apparently this stuff has the consistency of fine dirt but is sticky at the same time, meaning it blows all over the place and seriously disturbs surrounding communities.

It brought me to thinking a great deal about Milton Friedman.  Friedman acknowledges the handful of scenarios where a governing body is necessary, among them is the need for an environmental agency that simply administers cap and trade permits.  The reason this is necessary is because the environmental externality associated with certain forms of pollution is often too difficult to pinpoint to any one, particular firm.  While class-action lawsuits have traditionally been used to handle such matters, we are familiar with just how difficult it can be to fight a team of corporate lawyers.  The burden of proof is on the victims and they must prove that XYZ company is directly responsible for so-and-so’s lung cancer.  Despite this, we all know that certain pollutants cause major health issues and can also damage private property value.  This creates the distinct need for an active market of cap and trade permits under a government body.

Cap and trade permits can be used for virtually anything because they simply determine the acceptable limit of pollutants that can be released into the air, water, or earth.  The government body simply sets the limit for the year and firms go about trading permits with one another and creating a supply and demand market for releasing pollutants.  It may also be useful to create a limit on the amount of permits that any particular firm can purchase.  This way the most powerful company in the region can’t simply buy out all of the permits for the year.  Cap and trade could easily be administered for carbon dioxide and methane emissions, waste water, biological hazards, and would also take care of this petcoke issue in Chicago.  Clearly the firm found it most useful and cheap to simply dock their petcoke in Chicago, but a permit limit for Chicago would have prevented this from happening on the scale that it did.  The firm can then find the most cost-effective way to work around that issue, but no matter where they look they will have to purchase pollutant permits along the way.

The State of Solar Power in 2015

–Overall outlook: the state of solar power in 2015 is mixed by particular company and varies heavily by location; however, the overall trend is solid and continues upward in terms of growth.  Growth will not be nearly as fast as other industries like oil or natural gas, but installations are rising every year at a steady pace.  Companies are merging and vertically integrating.  The main players in the utility market are companies like SunEdison and SunPower, while companies such as SolarCity, Sunrun, and Vivint are dominating the residential market.

–Correlation with oil prices?: It must be pointed out that solar fundamentals do not show correlation with oil prices, and in fact show slight signs of negative correlation with oil prices.

–On-par with natural gas prices!: Utility-scale PPA prices decline steadily with natural gas prices and this trend has been occurring for about 5 years.  Solar prices were around $190/MWh in 2009 and a NGA contract was around $175/MWh.  In 2014 a solar PPA was around $50/MWh and a NGA contract was around that same area; however, much more volatile.

–Raw material costs dropping!: Average global multicrystalline solar module prices in ($/watt) were around $1.30 in 2011 and as of the beginning of 2015 were around $.70.

–Specific growth markets: Growth markets include: the Americas, India, Latin America, and South America, while China and Japan are large, but not growing.  Solar has succeeded in places like India due to relatively unpaved electricity access coupled with an extremely high amount of sunlight (shorter payback period) and an eager government that actively spots opportunities for solar development.

–Microfinance in poorer nations: While average incomes in India are quite low, the government has set up microfinancing solutions that allow entire villages to pay for solar installations.  While ordinary lending institutions wouldn’t be willing to lend out to poor farmers with no history of credit, microfinance creates scenarios where payback is possible although not terribly profitable.  However, once installations occur, farmers benefit from and are thankful for tremendously improved productivity.  Solar water pump installations, for instance, allow farmers to extract water without the hassle of dealing with costly diesel pumps that require constant fill-ups.

–Where solar is NOT doing well: Solar isn’t doing well in areas with low levels of sunlight and/or governments that don’t support policies like net metering.  Places like Arizona have tons of sunlight but energy prices are also relatively cheap there due to a large number of coal, natural gas, and nuclear power plants.  Additionally, the government in Arizona is not very supportive of solar energy installations, with very few incentives to help solar companies succeed.  Places like Germany are bad for solar, but the government there has dumped tremendous amounts of money into subsidizing the technology.

–Kick start is often necessary: Solar markets blossom when energy policies create incentives for installation.  Due to the fact that solar requires time to pay off, PPA’s are often preferred and net metering has to be set up in some proportion in order to manage the flow of solar during the daytime and fuel source energy in the nighttime.  Rebates are not necessary for profit on solar systems; however, they do generate momentum due to the fact that solar is, and continues to be an ALTERNATIVE energy source run against mainstay utility companies.  Because consumers are not forced to take roof-top solar power, rebates help kickstart the industry and have also helped to speed up the drop in costs across the supply chain.

Energy Efficient vs. Hybrid vs. Electric: How to Evaluate the Alternatives

I took three of the most efficient cars I could find from each category and compared the costs and underlying costs.

Mercedes CLA250: low-end Mercedes model with high MPG

Base Price: $31,500

MPG: (26 city * .50) + (38 highway * .50) = 32 mpg

Fuel Cost on 15,000 miles per year for 10 years at $3.00/gallon: (15,000/32) * $3.00 * 10 = $14,062.50

Total 10-year cost (excluding maintenance): $45,562.50

0-60 mph acceleration: 6.9 seconds

Acura ILX (Hybrid): middle-of-the-road Japanese luxury hybrid

Base Price: $28,000

MPG: (24 city * .50) + (35 highway * .50) = 29.5 mpg

Fuel Cost on 15,000 miles per year for 10 years at $3.00/gallon: (15,000/29.5) * $3.00 * 10 = $15,254

hybrid credits: none

Total (excluding maintenance): $43,254

0-60 mph acceleration: 6.3 seconds

Tesla Model S Electric: Tesla mid-line electric car

Price: $71,070 – average of $11,070 in incentives: $60,000

Fuel Cost on 15,000 miles per year for 10 years at a rate of half charging on Tesla supercharge network and half at home at $0.03/mile: (.5 * 0) + (7,500 * $0.03) * 10 = $2,250

Total (excluding maintenance): $62,250

0-60 mph acceleration: 5.9 seconds

So there it is.  All three of these cars are pretty comparable, mid-range luxury sports cars with a nice 0-60 acceleration of 6-7 seconds.  1st place is clearly the Acura ILX, which has the lowest cost of them all, and you’ll shell out almost $20,000 less than you would for the Tesla.  Mercedes has a really good value as well, although it is a bit slower than the other two, and I feel like a lot of the cost goes towards the brand itself.  Having a Mercedes is a bit sexier than having an Acura.  However, it’s still a great value.

A couple things to note here:

• Gasoline costs are low and the cost rises a bit for both the gasoline and hybrid when you jack up the price to $4.00/gallon.  However, it’s not very significant and the Model S can’t compare to either of them.
• Tesla takes advantage of some $10,000+ in subsidies.  People often forget that taxpayer dollars are going towards your neighbor’s sleek Tesla Model S.
• Tesla is planning to make a $30,000 model in the coming years.  It’s going to be less powerful than this model and probably hits 0-60 in 8-ish seconds.
• Battery costs are “expected to drop by 30%” when Tesla opens its’ $5 billion giga-thingy plant.  Tesla won’t disclose the cost to produce one of its’ batteries, but analysts estimate it costs about 30% of the total cost of the car.  Okay, so let’s do the math.  For that base model Tesla S it would be $21,000 for the battery and 30% of that would be roughly $6,400.  Well, given this EXTREMELY ambitious goal, that would bring the cost of our Tesla Model S down to just under $56,000.  Not even close.  Oh wait, then we add all of those taxpayers dollars back into the picture, and yeah…
• The range on a battery-powered car is limited.  Just like your laptop battery that lasts for a very limited number of years, a battery-powered car starts losing it’s charge capacity after 100,000 miles or so.  Our calculation is out to 150,000 miles and there’s a good probability you will need an entirely new battery by then.
• Electric vehicles take a charge from the power grid.  A power grid is comprised of coal, natural gas, and nuclear plants.  So that doesn’t necessarily mean you’re being more environmentally-friendly.  A number of sources have taken the liberty of calculating a “readjusted” mpg for your electric car by factoring in the sources of fuel that your state uses to power the grid.

I think a big takeaway here is that no matter how sexy and ambitious the electric-powered dream is, it’s not really that remarkable.  There’s no miraculous material that Elon Musk is using to power his automobiles.  He works with the same exact materials that everyone on the planet works with.  The electric-powered dream may be here in 50-100 years if gas prices skyrocket, but the material inputs are just so damned scarce.  It’s hard to imagine a highway full of Teslas in my lifetime.

…But What About Pollution? A Libertarian Response to Pollution and Property Rights.

The dire water issue in California had me thinking a lot about property rights and pollution and how we approach it. One of the primary reasons people hate capitalism is due to pollution (asbestos, tetraethyllead gasoline, coal emissions, chemical dumping, the list goes on). But economists say the government is simply providing no incentive to manage those resources properly except to penalize those who mess them up. What do you think?

“With a General Motors owning the Mississippi River, you can be sure that stiff effluent charges would be assessed on industries and municipalities along its banks, and that the water would be kept clean enough to maximize revenues from leases granted to firms seeking rights to drinking water, recreation, and commercial fishing.”

http://mises.org/daily/5978/The-Libertarian-Manifesto-on-Pollution

The Progression of Fossil Fuels

Although I am clearly a supporter of energy efficiency and cleaner, more renewable energy sources, I do not automatically dismiss something because it supports the oil industry.  Petroleum has allowed us to fuel mass transportation and create plastics, reagents, kerosene, asphalt, and even pharmaceutical products.  It’s cheap abundance has improved our society tremendously, even allowing us to venture out into the solar system and beyond.  What if you even found out that the use of petroleum reduces energy usage in many facets of life?  From a publication entitled “Applications and societal benefits of plastics,” authors Anthony Andrady and Mike Neal write: “Using plastics in transportation, building and even packaging applications invariably results in very significant savings in materials and in fossil fuel energy. For example, a comprehensive study published in January 2005, GUA (Gesellschaft für umfassende Analysen GmbH) established that packaging beverages in PET versus glass or metal reduces energy consumption by 52% (83.2 GJ yr−1 in Europe alone). Greenhouse gas emissions were reduced 55% on the same basis (4.3 million tonnes CO2 eq yr−1 in Europe).” (http://www.ncbi.nlm.nih.gov/pmc/articles/PMC2873019/)  These are the things we don’t take into consideration when we only assess the direct economic and environmental damage caused by various resources, such as examining gas prices and looking at carbon emissions levels.

In terms of cost efficiency, coal has always been cheaper than oil.  In 1949, the price of one short ton (2,000 lbs.) of anthracite (high-grade) coal, adjusted for inflation, was $61.38. (http://www.eia.gov/totalenergy/data/annual/showtext.cfm?t=ptb0709)  The price of one short ton of oil was over $200. (http://inflationdata.com/Inflation/Inflation_Rate/Historical_Oil_Prices_Table.asp)  However, oil has a distinct advantage in that it has higher energy density and allows for more efficient conversion as a liquid rather than a solid requiring a furnace.  Think of the difficulty of having automobiles and airplanes run on furnaces full of coal!  1 pound of oil has 2.4 x 10^7 Joules of energy.  Multiply by 2204 to receive an answer of 52.896 billion Joules per ton of oil.  One ton of coal carries 3.2 x 10^10 Joules of energy, or 32 billion Joules.  One ton of oil carries about 65% more energy than one ton of coal.  The point is that energy efficiency is the inevitable progression of society.  As society becomes more fast-paced, we require more efficient sources of energy to fuel our everyday lives.  Unfortunately, we have other factors such as limited resources and climate change that create diversions for the path of our energy progression.

When we look at the scope of oil production, reality is simply reality.  The fact of the matter is that petroleum is now expensive.  With oil prices bordering around $4 per gallon in America, and even higher elsewhere in the world, it is inevitable that we will be switching to new sources of energy.  Even throughout the early 20^th century, oil prices hovered around a real price of $20 per barrel.  It was only a matter of time before we ran out of easy oil and prices rose substantially.  We hear news all the time that oil companies are breaking ground on a staggering number of new reserves across the world.  However, it is clear that oil will never be cheap again.  Anyone in the oil industry will tell you that the easy oil is now gone.  This is why when we think of the concept of “Peak Petroleum,” it doesn’t really matter how much is in the ground.  The only thing that matters is the point at which the price of oil becomes higher than other sources.  When other forms of energy become more cost effective, oil demand will decrease well before world oil reserves are fully depleted.  All that is required to come to this conclusion is to look at the trend in prices.

As of July 15, 2013, the average price for one gallon of gasoline was $3.61.  The average price for one “gallon” equivalent of natural gas was $2.11.  Natural gas is in a ripe position to take over the market due to this very fact.  The prices clearly exhibit why it is advantageous for people to convert to CNG vehicles.

The reasons you don’t see a highway full of natural gas-powered vehicles are seemingly absurd, but are common problems we see in upcoming industries that face an uphill battle against well-established industries.  First of all, the demand is currently suppressed because the transportation and storage infrastructure for natural gas is not widespread.  At the same time, there is an excess supply of natural gas.  Because the supply is greater than demand, there is an excess supply of natural gas on the market that can’t be sold profitably.  Thus, many businesses in the energy industry are actually switching back to oil!

Personally, I believe this is a temporary issue.  At the moment, natural gas has proven to be extremely profitable when power plants are converted to natural gas-electric power and electric cars can simply charge their batteries at the pump.  This saves tremendous amounts of energy because we don’t have to replace every gas station with stored natural gas.  As quoted from Siemens: “In 2035, according to the IEA, natural gas will account for 25 percent of the global energy supply; the current figure is 20 percent. In fact, some experts are predicting that gas might surpass coal as early as 2030.”