Friday, July 28, 2017

The Bitcoin Fork as the Currency's Great Existential Moment...

On August 1st, the world's favorite cryptocurrency, Bitcoin, is likely to split into two.  This is a seminal moment that we get to see play out right before our eyes, and no one is quite sure what to expect.

Here's an explanation... right now, despite 1 Bitcoin being worth about $2700, they are hardly ever being used in actual transactions.  The Bitcoin system's infrastructure can only handle 6 transactions per second (as opposed to Visa being able to handle 1600 transactions per second).  It's slow to the point of being virtually unusable in real-life retail situations.

To fix this problem, there are two prevailing ideas.  The first idea, supported by both the organization and community that manages Bitcoin's underlying software, is called the "soft fork" (also know more formally as SegWit, BIP 148, and UASF).  Without getting overly technical, the soft fork would take the Signature or "Witness" data in each transaction and move it towards the end of a transaction block in a separate structure from the data of the transaction itself.

The pros of the soft fork are that it would make transactions much faster (thanks to the blocks being structured more efficiently), transaction fees would go down, and a Lightning Network would be created that allows micropayments (like you paying for coffee at Starbucks) to be processed instantaneously without any fee.  The largest con of the soft fork is that it is widely seen as only a temporary fix, and that a hard fork will still be necessary in the future. So basically they're just kicking the can down the road to a time when it'll be even more problematic.

Speaking of which, the second idea, supported primarily by Bitcoin miners, is called the "hard fork" (also known as SegWit 2x, MASF, BIP 91, and UAHF).  This hard fork would also re-structure the "Witness" data, but would go a big step further and additionally increase the actual block size from 1MB to 2MB.

The pros of the hard fork are that it would also make transactions much faster, and would do so on a more permanent, or at least long-term, basis.  But the pros and cons of the hard fork start to blur because of the fact that the hard fork will not be backwards-compatible.  Both the hardware and software required for mining needs to be replaced - and since not every miner will have the resources to do so, this will lead to many getting out of the market and thus higher mining rewards with less competition.  That's a big con for some but a big pro for others.

And to clarify the terminology, after the split next week, the soft fork will be called Bitcoin Core and will use the ticker BTC, while the hard fork will be called Bitcoin Cash and use the ticker BCC.

What's an investor to do?  The first priority is to safeguard your money.  Many of the biggest exchanges have gone on record saying that they will not support Bitcoin Cash.  That should certainly be a significant consideration.  Also, in the immediate term, some advisors like Mohit Mamoria are recommending that investors "not make any transactions a few days before and after August 1, 2017.  Because of the fork, you might lose your Bitcoins into the thin air.  After all, Bitcoins are nothing but records of transactions.  If your transaction doesn’t get recorded by either of the chains, they will be gone forever.  Poof."

Speaking with one Bitcoin trader, Keith E,. who is a member of the Rational Investor Community, his plan is to keep 15% of his capital in Bitcoin, and on an exchange that supports the fork.  He withdrew 50% of his capital in Bitcoin recently at $2814, and placed the rest in Altcoins.  His reasoning...

"I have concerns on how this will play out.  As a trader, when in doubt, get out.  If you are a crypto trader, the only reason to keep all your assets in Bitcoin [right now] is greed.  Bulls and bears make money; pigs gets slaughtered.

"Also, the only reason charts fail on technical trading is when there is a huge fundamental driver.  I don't think it gets more fundamental than a hard fork in Bitcoin."

Perhaps the most interesting aspect of this fork is the decision-making processes that led to this existential moment.  The Bitcoin system was specifically designed with an open architecture to make forks like this, not only possible, but encouraged.  Let there be as many variants or offshoots as people want to create - the ideology goes - and what survives will be based on whichever of those variants people actually choose to adopt.  This is the rough consensus model of governance in action, which has served the larger tech community so well in the past.  However, the stakes are a bit different when rough consensus is applied to technical standards-setting versus when it is applied to the financial sector.  Waiting on the sidelines to see how things ultimately shake out lends itself to a different sense of urgency and time horizon.



Post a Comment

<< Home