Following today’s news that Tesla will no longer accept Bitcoin due to concerns over its fossil fuel use, market commentators have been focusing not only on the speculative nature of Crypto but also its ESG credentials.
David Sneyd, Vice President in BMO Global Asset Management’s Responsible Investment team, considers whether cryptocurrency really is a responsible investment as he comments:
“Bitcoin has generated plenty of headlines owing to its volatile nature. Earlier this year, the cryptocurrency gained increased attention thanks to Tesla’s purchase of $1.5 billion worth of the stock. But then the focus turned to its significant energy use, with recent reports showing that Bitcoin mining consumes more energy than entire countries. Now Tesla has generated fresh headlines about the currency, with Elon Musk declaring that the company has suspended the use of Bitcoin to purchase its vehicles, owing to the currency’s fossil fuel use. For those who wish to invest responsibly with environmental, social and governance (ESG) considerations at the forefront, is this technology suitable?”
Bitcoin’s potentially positive ESG factors
“On the surface, the proposition from Bitcoin to democratise financial markets by removing intermediaries certainly does have its social advantages. For example, reducing the cost of remittance corridors between richer and poorer countries, through which migrant workers send funds home to their families, feature within the UN’s Sustainable Development Goals (SDGs). In addition, the anonymity that Bitcoin and other cryptocurrencies provides can give security to those under oppressive regimes or provide a level of privacy to users that is being eroded in these digital times.”
Bitcoin’s negative ESG factors
“This decentralised monetary model reliant upon advanced cryptography comes at a significant environmental cost. As widely reported, Bitcoin’s estimated annual power consumption matches that of various countries around the world; recent analysis from Digiconomist puts Bitcoin’s annual energy consumption similar to that of Netherlands, and its carbon footprint comparable to Singapore. More significantly, with two-thirds of mining taking place in coal-heavy regions like China where energy costs are subsidised, the resultant carbon footprint is huge. Over the long term, it is difficult to see how this is consistent with a transition to a low carbon economy.
“In addition, Bitcoin needs to work on its reputation with financial regulators – its design, prioritising anonymity, means it has historically been used to facilitate money laundering and finance criminal activity that undermines social institutions. Just last month there were headlines reporting European Central Bank President, Christine Lagarde’s, call for regulation to address ‘funny business’ associated with the cryptocurrency. Although still not anywhere near as significant as the use of conventional cash for these purposes in the offline world today, its use as a digital currency, predominately online, makes this comparison seem less relevant to these gate-keepers. This is changing as more transactions take place on formal exchanges that have anti-money laundering and “Know Your Customer” (KYC) procedures in place, but recent comments by the Biden administration show that this opinion remains a headwind.
“All of this is to say that, overall, we consider Bitcoin, and other cryptocurrencies, to be a net negative from an ESG standpoint. As it currently stands, the positive potential of Bitcoin remains unproven, but the negatives are very real and present.
“Yet that is not necessarily the end of the story, as we consider that the blockchain technology that underpins cryptocurrencies has a lot more promise at providing solutions to long-standing ESG problems. By offering a new method to record information in a manner that is more open while also being secure, it could address issues with supply chain traceability, renewable energy distribution, anti-money laundering and proxy voting. It might not grab the headlines in the way that its cryptocurrency cousins have done so before it, but in the background (or rather back-office) and behind the scenes, it could provide exciting opportunities in helping companies tackle the sustainability issues that their businesses face.”
Mark Northway at Sparrows Capital believes that this latest volte face by Elon Musk serves to support the as yet non-existent argument that Bitcoin should have a special place next to ‘speculative’ in the dictionary. He comments:
“A crypto token is nothing more than a file, like any other computer file. Market participants have collectively identified a certain type of file, within a high security, distributed, cloud-based IT environment as a unit of exchange, and are engaged in the process of establishing a price at which that unit can be exchanged for other, more conventional units.
“This price discovery process is highly problematic since, unlike conventional (fiat) currencies, there is no asset or economic engine underlying cryptocurrencies.
“There is an assumption that just because something can be traded, it should be traded. The hype around cryptocurrencies has attracted traders (as opposed to investors) keen to capitalise on the price dynamic of increased demand versus limited supply, and as a result the majority of traders and miners have made spectacular returns over time – so far.
“But the price of crypto currencies is not underpinned by any intrinsic value; indeed it is determined by only one thing – confidence.
“Confidence in what? Pure crypto assets produce no cash flows and no economic output. Their price is simply an equilibrium point between those who think it will increase and those who think it will fall. Cryptocurrencies can’t be measured in terms of how far that price departs from a fundamental value, because they have no fundamental value. This extreme dependence on supply and demand means that there is no natural price limit on the upside, and that the downside is limited only by zero.
“Whilst not even Elon Musk was around at the time, we should look to the Tulip mania of 1636/7, where (according to Earl Thompson) the prices of tulip bulbs rose by a factor of more than 5000%/ Certain bulbs could be exchanged for five times the value of the average house.
“Asset price bubbles rely on a continuous flow of new purchasers, keen to get in on the act; but purchasers, like bitcoin, are in finite supply, and when the flow of new capital subsides there is likely to be an unhappy moment of rationalisation.
James Jonhsen, director at Church House IM explains his scepticism about the meteoric rise in Bitcoin and concerns over the cryptocurrency being sometimes seen as an investment. He comments:
“Whether this is a cynical ploy or genuine concern about the environmental impact (which was being talked about well before he bought $1.5bn of bitcoin in February), Musk has certainly influenced the cryptocurrency market. Again.
“One thing this has served to clarify in our minds is that Currencies – whether crypto, ‘fiat’ or backed by gold reserves – are not a sensible area for long-term investment and should be left to short-term speculators.
“Some national currencies, at least, being strongly linked to national economies, backed by reserves and linked to interest rates controlled by reputable central banks and representing widely accepted units of exchange, bear some analysis and rationale for their valuation relative to each other.
“Cryptocurrencies enjoy none of these basic attributes.
“There has been much loose talk about this exciting new alternative asset class; not only am I sceptical for the reasons above but also because there is absolutely no way to value this so-called ‘asset’.
“A purchase of bitcoin or similar should never be represented as ‘an investment’; anyone hoping to make money on it should regard it only ever as a speculation or a bet. And like all gambles, it should be limited to what you can afford to lose completely.”