The bitcoin trade is rooted quite firmly in the ethos of the free market. The bitcoin market is so free, in fact, that it is almost completely opaque and nearly totally unregulated. While that certainly has its advantanges, with murkiness and lack of regulation comes an increase in the possibility of market manipulation. Specifically, it leaves open the opportunity for a cabal (or maybe just a single member) of bitcoin’s elite to purposely tank the market – and profit handsomely in the process. Think Jay Gould and James Fisk's near-cornering of the gold market in 1869, when gold prices were inflated to $169 an ounce (a price level it wouldn't see again until the 1960s) before it crashed.
I talked to Equities.com Quantitative Analyst Nicholas Bhandari about the likelihood of the bitcoin market spawning its own Fisk and Gould market manipulators, how a “cornering” of the bitcoin market would take place, and if there are any players capable of doing exactly that.
Jacob Harper: We were talking last week about how an options/futures market could shave the volatile edges off of bitcoin’s price, because right now there are no governmental safeguards to do so. Which got me thinking that without those safeguards, the bitcoin market could be easily manipulated, even cornered. My first question is: is that feasible? And second, how would an unscrupulous market manipulator go about doing so?
Nicholas Bhandari: The feasibility of (cornering a market) is traditionally determined by two elements. The first one being the overall size of the market. Which with bitcoin, is about $5.5 billion market cap?
JH: $5.46 billion, according to coinmarketcap.com.
NB: At that size, market manipulation would not be particularly difficult. The second thing that would be a factor how much of the stock – I’m referring to bitcoin as a “stock” because it more closely resembles equity than a currency – is floating around and available.
For instance, with Apple (AAPL) stock, only half of it is tradable. With bitcoin, I know a significant amount of it is owned by the non-existent entities, or people who are “behind the shadows,” so it is difficult to determine what exact percentage is out there free to trade. But the smaller that percentage is the smaller amount of money, or bitcoin, you would need to manipulate the market.
There’s a couple of ways to do that. One of the basic ones is if you own enough bitcoin you could tank the market purposely, and hold a large cash reserve on the side to buy back at a furious pace, just buy and sell in separate accounts on these booms and busts forever.
The other way, going back to our conversation about a bitcoin derivatives market, where you would buy a futures contract and the spot commodity. As long as you own the commodity that the futures contract is deriving its value from, you could effectively manipulate the value of the futures contract. So you’d be able to do something very similar with bitcoin if there was a full-fledged market. And frankly, you don’t need a full-fledged market. This could just create over-the-counter transactions and do the exact same thing.
JH: When you say over-the-counter transactions of bitcoin, could you explain what you mean by that?
NB: Person to person, without an exchange mediating the two. Done in complete secrecy. It really shows the lack of visibility in the market. We’ve discussed before what bitcoin is, whether it’s an investment or a currency. And I think bringing up this idea (of cornering the bitcoin market) shows that it doesn’t act like a currency at all. But it’s not really an investment either. What bitcoin is is a question that people need to ask themselves.
JH: But as a wealth storage vehicle – whether bitcoin is an equity or a currency or neither – it is manipulatable.
NB: It is manipulatable. It does matter as to what the largest owners of bitcoin are, whether they’re in contact with one another, whether they’d have the means to fight back against manipulation and stabilize the market.
All of that is not impossible. It is unlikely, considering the secrecy that surrounds the market. But it’s not impossible. It is manipulatable assuming those circumstances are present.
JH:Speaking of the largest owners of bitcoin: while it’s impossible to know exactly how much they hold, the Winklevoss Twins are rumored to possess upwards of one percent, maybe even two percent of all the bitcoins in existence. Not saying they specifically would do so, but is that a sizable enough position to manipulate the market?
NB: Without exact numbers, it’s hard to say. But assuming that less than half of total amount of bitcoin is out there available to trade, and the volume isn’t massive on a day-to-day basis, and bitcoin is very, very liable to extreme swings, then yes, that much bitcoin could easily be used to manipulate the market. It wouldn’t be that difficult.