Skepticism abounds, but experienced industry professional argues cryptocurrency offers pension funds significant upside potential
I recently saw a video of a family of three ordering a meal at McDonald’s in 1990. The dad even had two burgers and the total was still only $10. You'd have to be living under a rock not to notice inflation these days, but sometimes it takes a trip down memory lane to drive home how much times have changed. Today the price of a single Big Mac meal in Toronto is around $13.
This is the way of inflation. It's an accepted fact of our financial system that the cost of things rises over time, and the stated goal of central banks is basically to keep that creep at a pace gradual enough to avoid causing widespread unrest.
It’s a fascinating aspect of the rat race. We spend the best years of our lives toiling and squirreling away hard-earned money, knowing that at some point in the future everything we want to buy will cost more. Our answer to this problem is to get as much money as we can and grow it as much as we can. On some level, we have all understood and accepted that our money loses value over time.
Today money is losing value faster than we are used to, and the conditions for that phenomenon to continue are ripe. Pandemic spending in 2020 pushed government debt levels to new heights, and rising rates will put pressure on our ability to service that debt without further currency debasement.
As interest rates increase, interest payments on the debt also rise. When interest payments exceed tax revenues, larger deficits are incurred, leading to more debt issuance. This cycle continues, and the interest on the debt accumulates. While interest rates have been higher in the past, the current levels of debt make the situation precarious. In Canada, for example, the interest payments on federal debt are almost four times larger than total tax revenue. Just about every country in the world is in this predicament.
The impact of persistent higher inflation rates on pension plans needs more attention. Inflation reduces the real-world spending power of future pension benefits. It also increases the demand for higher returns, as some pensions may need to adjust benefits or increase payouts as salaries rise more quickly than expected.
To adapt to the reality of the post-COVID world, the composition of traditional pension portfolios probably also needs a rethink. 2022 was the worst year for the 60/40 portfolio since 1937. The headwinds facing bonds in general should be raising the question of how the 60/40 portfolio will possibly return to its historical models any time soon.
It is because of this planned devaluation of government currencies and expectation of persistent higher inflation that every pension needs exposure to bitcoin. Not because bitcoin is the silver bullet, but because these conditions are ideal for Bitcoin adoption to accelerate, which would mean it will outperform as an investment. This idea so far has not been well received. Outsiders to Bitcoin tend to see something risky and illegitimate. Students of Bitcoin view it as a new kind of asset combining the qualities of a currency, store of value, and a finite commodity.
Bitcoin is the world's only currency with a permanently fixed supply. The rate of issuance of new Bitcoin is pre-determined through 2140 and diminishes by 50 percent every four years. This means that it is already a product for which every person in the world has a need. It is money that becomes more valuable over time instead of less. Because of its permanently inelastic supply, Bitcoin’s success as a currency translates to continual appreciation in price. More users vying to use a currency with a finite supply essentially ensures the price goes up as the number of users does.
The finite nature of the Bitcoin currency also makes it an ideal store of value, which creates a powerful secondary function. We are so used to money losing value that the idea of one that gains value seems absurd to many. This is another nuance of why figuring out its place in a portfolio can be confusing. Is it a currency or a commodity? It’s both.
Beyond planned appreciation in value, Bitcoin offers a number of other features that are superior to its current competition in currencies and bode well for further global adoption. Bitcoin has no counterparty risk, it is censorship-resistant, it can be sent anywhere in the world with final settlement confirmed in minutes, and the transaction fees are typically fractions of what a merchant would pay Visa or Mastercard.
Bitcoin offers pension funds significant potential for upside as an investment today because of how small it is compared to how broad its use could be in the near future. Many confuse price with opportunity when it comes to Bitcoin, as the price has already appreciated spectacularly. However, as an asset class on its own, Bitcoin today is still tiny. It is smaller than the world's largest companies like Apple and Google, and roughly 20x smaller than gold. Viewed as a store of value, much larger asset classes should be considered peers. Were it to attract five percent of global investable assets, that would be a hundredfold return from today.
The arguments against Bitcoin in pensions are rooted in deep misunderstandings of what it is, and where it is in its maturation. The first obstacle is typically the stigma that Bitcoin is illegitimate because it does not originate from a nation state or bank. Bitcoin's legitimacy comes from its immutable mathematics and the consensus achieved from participants all over the world running the Bitcoin software. Bitcoin does not need a bank or country to confer legitimacy.
The primary concerns thereafter are volatility and durability. Volatility is a legitimate challenge for pensions, to account for which actuaries will need new math. On shorter time frames of less than 48 months, Bitcoin does have a history of recurring price corrections. In this case, volatility is a trade-off that comes with performance. Bitcoin has been the best-performing asset in the time since its inception by any metric.
As far as the likelihood of Bitcoin disappearing entirely, most holding this opinion simply have not comprehended how globally accepted and used Bitcoin already is today, not to mention how difficult it will be to destroy. The global computing power devoted to Bitcoin mining, measured in exahash, is a lead indicator of Bitcoin performance and has grown at a rate much faster than the price of Bitcoin in US dollars. Measurably more resources are being dedicated to making the network even more robust every day. This is because as more entrants join as participants, the number of stakeholders in ensuring the network's ongoing success grows. The Bitcoin network is a positive feedback loop of cooperative incentives, which make Bitcoin more durable and enduring as the price and number of users grows. This in turn creates more stakeholders and attracts further computing resources.
The Bitcoin network has delivered a functioning product, a network of exchange, with a 99.99 percent uptime since launch while it had much smaller global computational strength. A successful attack on Bitcoin during its infancy could still have netted billions, yet there was no such event. Bitcoin is much more resilient than most of the world understands.
Over the last 30 years software has eaten all kinds of technologies. Bitcoin is software eating money. It is already the world's largest decentralized network of computers. It offers participants a product with a use case that has value for individuals, corporations, governments, endowments, and pension funds.
With the potential for higher inflation and the challenges faced by traditional investment options, pensions need to consider alternative assets to protect their funds and generate returns. So far, pensions that have ventured into the space have gone awry by investing in service providers and exchanges instead of just accumulating Bitcoin.
Bitcoin itself presents a unique opportunity. It combines two attractive use cases (currency and store of value) with a relatively small market cap, leaving much room for price appreciation.
Pensions that take the plunge and embrace Bitcoin early will reward members with exposure to an asset designed to thrive in the financial conditions that emerged from the same crisis that birthed Bitcoin in the first place.
Scott Dedels is president of Paramount Employee Benefits & Pension Consulting. Previously, he was with Bitcoin Well, CAPRICMW, and Great-West Life.
