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Professional Credentials: The reports that I write are my personal research and opinions. They are not associated with any firm or organization, and are not intended to be taken as investment recommendations or advice. They combine my passions in economics, finance, writing and education, and... More
  • Bitcoin; Warning Signs Are Multiplying 5 comments
    Feb 11, 2014 8:18 AM | about stocks: AAPL, WU

    I've been writing many articles about the Bitcoin warning people about how it is almost certain to fail. Like all bubbles, people willingly ignore the warning sighs when they are making money. Profits make us blind to reality. I remember the "new metrics" and "this time is different arguments" of the Dotcom bubble. Gold at $1,900/oz was just the start, gold was going to the "moon." I made myself very unpopular in some circles where I voiced my concerns. It is always easier to cheer on the bubble than to be the one to pop it.

    The problem is, the pop eventually happens, and then all that can be said is "see, I told you so." A little over a week ago I wrote an article about the Bitcoin. At the time the Bitcoin was trading near $950, a few days earlier it as above $1,000. Today, a little more that a week later, it is trading below $700, and has recently touched $650. Bitcoin has lost 30% is little over a week, and its supporters that created it did so because they were upset that the US Dollar lost 95% of its value over the 100 years since the Federal Reserve was created. The very foundation of the Bitcoin based upon pure nonsense, and a complete misunderstanding of monetary policy and the Federal Reserve. Anything with such a fraudulent foundation is certain to fail, and the warnings signs are multiplying.

    Since my last article, Russia has banned the Bitcoin, Apple (NASDAQ:AAPL) has "declared" war on the Bitcoin, Florida is cracking down on Bitcoin exchanges, Bitcoin fraud made Time Magazine and worst of all, the major Bitcoin "exchange" Mt Gox is in "static mode" preventing all Bitcoin "withdrawal" requests.

    Statement Regarding BTC Withdrawal Delays

    Tokyo - JAPAN - February 07, 2014

    Dear MtGox Customers,

    In our efforts to resolve the issue being encountered by various bitcoin withdrawals, it was determined that the increase in the flow of withdrawal requests has hindered our efforts on a technical level. To understand the issue thoroughly, the system needs to be in a static state.

    In order for our team to resolve the withdrawal issue it is necessary for a temporarily pause on all withdrawal requests to obtain a clear technical view of the current processes.

    We apologize for the sudden short notice. All bitcoin withdrawal requests will be on pause, and the withdrawals in the system will be returned to your MtGox wallet and can be reinitiated once the issue is resolved. The trading platform will perform as usual for the needs of our customers.

    Our team will resolve this problem as soon as possible and will provide an update on Monday, February 10, 2014 (NASDAQ:JST).

    We deeply apologize for the inconvenience caused, and thank you for your kind support and considerations.


    The MtGox Team

    Reading the above statement makes me very suspicious given my understanding of how a Bitcoin "exchange" is supposed to be set up. A Bitcoin "exchange" isn't like the NYSE, where a trade is placed and two brokerages work to settle a trade. I have an account at one broker, and someone else has an account at another broker, and we place a trade through dealers on NYSE. Our two brokerages work to make sure the transfer of funds and assets are settled within 3 days. It is a pretty seamless system.

    Problem is, you don't buy Bitcoins through brokerages, you buy them through your account at the exchange. Having cash on hand at the exchange should remove any settlement risk, the money should always be there to settle trades. Mt Gox is the broker, dealer and bank. Under that system there should never be liquidity crunches. Person A has $500 in a Mt Gox Bitcoin account and buys 1 Bitcoin from Person B who has a Mt Gox Bitcoin account with 1 Bitcoin in it. The Bitcoin Bid/Ask is $450/$500, so Mt Gox credits Person A with 1 Bitcoin and a debit of $500, Person B gets a credit of $450 and a debit of 1 Bitcoin, and Mt Gox credits themselves $50 for the exchange. To make this situation even more suspicious, Mt Gox can "mine" its own Bitcoins. It can literally pint money. If the exchange is run properly there should never be a liquidity issue.

    Mt Gox is using terminology that seems reasonable because everyone is familiar with banking, and banks have a legitimate to limit withdrawals. Right now HSBC is in the headlines about limiting withdrawals. HSBC is a fractional reserve bank, Mt Gox isn't, Mt Gox is supposed to be a safe deposit box. Unless I'm mistaken, Mt Gox doesn't make loans. Banks would never limit withdrawals from a safe deposit box. Mt Gox is supposed to be a safe deposit box, or a "wallet." This liquidity claim is simply suspicious given my understanding of how this "exchange" is set up to function.

    Another odd thing about this announcement is that trading in Bitcoins is still allowed, deposits are still allowed, the only thing that stops are the withdrawals. That is how all Ponzi schemes end. You can send in more money, you can sell your holdings, the check just never arrives in the mail.

    The oddities continue with the statement that withdrawal requests are being returned to the wallets, and can be reinstated once the issue is resolved. That statement lacks a whole lot of necessary detail. Before the "temporary halt" was implemented the Bitcoin was 30% higher. The actions of Mt Gox triggered a panic. At what price are those orders going to be reinstated? The pre or post panic price? Mt Gox, being the most dominant exchange, has the power to move the Bitcoin market on a major scale, and this isn't the first time. It is well established that issues at Mt Gox can dramatically move the price of Bitcoins.

    What does that matter? It matters because this creates a huge opportunity for market manipulation. Mt Gox stands to benefit from "temporary shutdowns" and "denial of access attacks." Mt Gox also has access to huge inventories of Bitcoins in the "wallets" that they maintain. Mt Gox also "mines" Bitcoins. What is to stop Mt Gox from selling newly "mined" Bitcoins, and "borrowing" some Bitcoins from the existing account "wallets" and selling them? Mt Gox would them announce a "temporary halt" to trading, the Bitcoin plunges, and Mt Gox then steps in, buys back the Bitcoins, replenishes its inventory and returns those "borrowed" Bitcoins. A classic pump, short and dump scheme. Fortunately there is a "block chain" that could identify the trades I just described, unfortunately, there is no regulatory body to look into it. Funny how that works.

    Last issue is the last statement of the announcement. Mt Gox doesn't say when they will allow withdrawals. All they say is that they will "provide and update" on Monday. If I had an account at Mt Gox I would want far more than an "update" on when the withdrawals can restart, I would want detailed answers as to how a liquidity crisis occurred in the first place? What happened to all the money that theoretically should have been there?

    Ouch!!! Since I originally submitted this article for publication things have only gotten worse. Today, Monday February 10, 2014, Mt Gox is announcing that a "flaw" in their system allowed "fraud."

    Bitcoin price plunges as Mt. Gox says flaw in protocol allows fraud

    The digital currency fell as low as US$535 late Monday Japan time before recovering to $636.37 at press time, according to CoinDesk, which publishes an average of the prices at several coin exchanges. It had been trading around $850 for much of last week before diving to $750 on Friday.

    Mt. Gox had said Friday it was putting withdrawals to external bitcoin addresses on hold due to unspecified problems linked to an uptick in withdrawal requests.

    Not surprisingly, the Bitcoin true believers remain undeterred, and as loyal to the plunging "cryptocurrency" as ever.

    'Bad news' is 'good news' for Bitcoin

    The problem is, Mt Gox appears to have a real problem on their hands.

    A bug is allowing a third party receiving a bitcoin transfer to make it look as if the transfer did not go through, which can lead to improper multiple transfers, Mt.Gox said.

    Translation? What that means is that if you purchased something for 1 Bitcoin, the "third party" could have sent multiple requests for the 1 Bitcoin and been paid on all of them. The article didn't define "multiple," so that 1 Bitcoin purchase may end up costing 10 Bitcoins or 1,000, we just don't know. One thing for sure however is that the Bitcoin is designed to be just like cash, and once robbed, it is highly unlikely that those Bitcoins will be returned. The other odd thing about the way Mt Gox is handling things is that they are preventing all withdrawals. Is the owner of the account considered a "third party?" I can understand blocking transfers to "third parties," where the problem is claimed to exist, but why block people from withdrawing their own Bitcoins?

    The one thing I've been warning about in all my articles is that Bitcoin is as best a beta test, and on this issue the people at Mt Gox agree with me.

    Mt.Gox tried to put the best face on the technical problems in its latest statement, noting that the technology is "very much in its early stages."

    "What Mt.Gox and the Bitcoin community have experienced in the past year has been an incredible and exciting challenge, and there is still much to do to further improve," it said.

    You just gotta love their unwavering optimism. I'll reserve my celebration until after the "third parties" are identified and the stolen Bitcoins are returned. If that doesn't happen, depending on how many erroneous transfers have been made, Mt Gox may or may not continue to exist. Mt Gox may be about to learn a very very very tough lesson about all those nasty regulations the Bitcoin was designed to avoid. Some of them were designed for very good reasons.

    In conclusion; the warning signs are all around about the risks and dangers of the Bitcoin. I've always thought the Bitcoin was a cleverly designed fraud, and recent events haven't changed my mind, only made me more convinced. "Exchanges" like Mt Gox should be designed in a manner that make liquidity issues impossible. I may be mistaken but I don't believe 160+ years that Western Union (NYSE:WU) has ever had liquidity crises like Mt Gox has had multiple times in the last year. The old saying goes, where there is smoke there is fire, and there is a whole lot of smoke around the Bitcoin camp.

    Disclaimer: This article is not an investment recommendation or solicitation. Any analysis presented in this article is illustrative in nature, is based on an incomplete set of information and has limitations to its accuracy, and is not meant to be relied upon for investment decisions. Please consult a qualified investment advisor. The information upon which this material is based was obtained from sources believed to be reliable, but has not been independently verified. Therefore, the author cannot guarantee its accuracy. Any opinions or estimates constitute the author's best judgment as of the date of publication, and are subject to change without notice. Full Disclaimer and Disclosure Click Here.

    Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

    Stocks: AAPL, WU
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Comments (5)
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  • Mark T. Phillips
    , contributor
    Comments (582) | Send Message
    This is nothing new regarding Mt Gox; they have had serious issues their entire existence and most notably last April where they were forced to half deposits due to not being able to handle the influx of new customer accounts, which subsequently caused the crash.


    Since then, Mt Gox use has dropped precipitously, and until last week, it was the 4th largest exchange by volume behind bitStamp, BTCe, and BTCnCNY (but would likely be considered the 5th largest if you counted Coinbase). This is no surprise, as Gox's issues have been known publicly for quite a while and anyone who had money on there were moving it off as fast as they could.


    Since Mt Gox had withdrawal delays in USD but not bitcoins, people would use their USD to buy bitcoins then move them off the exchange. As you might expect, this caused Mt Gox prices to be higher than any other exchange (by 5-15%), but this trend has now reversed.


    People should be using Bitstamp/Coinbase for current exchange rates, not sure why people still look at Gox at all.
    11 Feb 2014, 09:20 AM Reply Like
  • Michael Blair
    , contributor
    Comments (5101) | Send Message
    @Robert Wagner - it does smell like a Ponzi scheme. Likely it is. Bitcoin is going to be remembered in history like lava lamps and pet rocks. A worthless fad lacking substance but popular with the great unwashed for a while. I wouldn't touch a bitcoin with a barge pole. Good luck to those who have. They will need it.
    11 Feb 2014, 09:26 AM Reply Like
  • Robert Wagner
    , contributor
    Comments (2301) | Send Message
    Author’s reply » Lava Lamps, now there is the example I've been looking for. Black light posters as well. Thanks for the comment.
    11 Feb 2014, 09:52 AM Reply Like
  • Ben Hanson
    , contributor
    Comments (525) | Send Message
    Michael- I'd liken it more to Dutch tulips or Beanie Babies. Unless I'm mistaken (I was born in 1985, so correct me if I'm wrong), no one except the manufacturers saw Lava Lamps or Pet Rocks as an investment opportunity. That's the rub- pet rocks are a harmless fad. You buy one, show it off a little, laugh about it, then it goes in the closet next to your Big Mouth Billy Bass to show your kids and grandkids. With Bitcoin, the story for your kids and grandkids will end with, "And that's why I don't own a home and you didn't go to college, Billy."
    11 Feb 2014, 03:49 PM Reply Like
  • Dividend Math Guy
    , contributor
    Comments (560) | Send Message
    Not to mention that the CEO of MtGox is missing.
    12 Feb 2014, 01:06 AM Reply Like
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