Research | Marc Arjoon | Coinshares | The TAM of BTC

Created

Sep 29, 2023 1:22 PM

We expect Bitcoin will continue to absorb an increasing share of the global demand for money because it has useful monetary properties

As a reminder, our general argument is that bitcoin will be more valuable in the future than it is now, because it will become more desirable as money. This argument rests on bitcoin’s ability to better fulfil the functions of money, which, by our definition, is primarily to preserve purchasing power over time and space and be readily exchangeable at any point in the future.

In other words, for bitcoin to increase in value, it must both perform better as a store of value and become easier to sell at any time, place, and scale.

Many items have performed these monetary functions, however historically the items that have done this best have been characterised by certain monetary properties. In our view, it is these properties that set each item apart, increasing (or decreasing) their ability to perform meaningful monetary usage, and ultimately determining the value they will capture relative to other competing monetary items.

The idea that bitcoin will become more valuable in the future, better perform monetary functions and in turn compete for greater use as a global money, is therefore dependent on its ability to provide preferential monetary properties. But more specifically, it is based on the following principles holding true:

its fixed properties continue to make bitcoin suitable to monetary use cases;
its relational properties, such as volatility and liquidity, continue to improve;

and/or

the context of the current economic environment changes such that bitcoins’ properties are more desirable relative to other global money competitors.

When an investor chooses to store their value in US treasury bonds as opposed to gold, it is because they believe that in their individual circumstance US treasury bonds have preferential properties, making them better suited to store value. For such an investor, it may be that US treasuries are more liquid and transferable than gold, given their digital nature and level of market depth across global trading venues, it may also be tactical in nature, believing that the US Dollar is likely to appreciate.

These savings decisions are made on an individual basis and in reality, account for a wide variety of items. The context of an individual's circumstance can then influence how desirable a particular property is when choosing between the many items that may store their wealth. For example, when the recent conflict began in Russia, Ukrainians might, at a much higher degree than just one week before, favour transportable items as opposed to non-transportable items, as the likelihood of having to migrate with their wealth suddenly increased dramatically.

Although the desire for certain properties may fluctuate based on the context of an individual’s circumstance, the chart below lists the properties that we’ve found to be the most consistent among historically used monies, as well as how bitcoin fares in comparison to other prominent monies of today and the characteristics that underpin each fixed property.

It is not a coincidence that bitcoin scores well in many historically significant monetary property categories. It was designed specifically with monetary properties in mind, as evidenced by its original stated purpose of serving as a form of electronic cash with a predefined, unchanging, and finite supply schedule.

This brings us to an important question about how to even measure the potential value of money? We have spent a lot of time thinking about potential ways to answer this question and we find the most sensible approach is a Total Addressable Market (TAM) model.

Methodology Overview and Model Assumptions

The overarching goal of this model is to estimate the potential value of bitcoin over time resulting directly from its capturing usage from other forms of competing monies.

We take extra care to note that bitcoin accruing value is a direct result of its outcompeting other stores of monetary value because there seems to be several common misconceptions that bitcoin would somehow become more valuable from its relative issuance decreasing (Stock-to-Flow), or the factors of its production becoming more costly (Cost-of-Production Theory). We cannot see any reason why either of those should be true. Bitcoin, similar to gold, accrues value because of its monetary properties and network effect creating a monetary premium in the unit itself. As a contrast, this means that in an environment where no one believes that bitcoin is likely to retain its exchange value against other goods and services somewhere else or in the future (or, its ability to “store value” over time and space), it would be worthless.

Bitcoin has no appreciable alternative use case outside of money, and it is therefore inappropriate to consider valuing bitcoin as one might for a commodity with industrial utility (Nickel, Copper, etc.), an equity with promise of future cash flows (Coca Cola, Apple, etc), or a debt security with yielding interest payments (US treasury, Commercial Paper, etc.).

The resulting data from our model may be used to compare any forecasted projections of bitcoin’s market capitalisation or price to several scenario-based estimations of bitcoin’s potential value capture. However, depending on the quality of the data and the assumptions we feed into it, the model can also estimate the progression of bitcoin’s monetisation in a time series, measuring its potential value in the short-, medium-, and long-term.

In constructing our model, we’ve tried our best to keep things relatively simple. The general guiding principle is to favour simplicity over intricacy.

Our overall methodology can be summarised as follows:

A top-down approach which chooses several pools of prospective monetary value, a capture percentage of each value pool that may flow into bitcoin, and a statistically-derived demand curve that measures the progress of such flow over a set period of time.

Assumptions

Future Monetary Demand based on Current Monetary Demand

The base assumption of our TAM approach is that the total future value of all money is at least the sum of the current value of all money.

We estimate the size of the long-term monetary market by simply looking at the current market and assuming the two will be similar. In doing this, we assume that the future demand for money is at the very least not smaller than current demand.

With this, we have estimated the total market potential of bitcoin (note: this is not the expected demand); this is the first step in estimating scenarios of possible future bitcoin exchange values.

Current Global Monetary Value

To approximate the size of the current global demand for money, we consider the value of pools of monetary assets that are currently and most clearly fulfilling monetary functions. We’ve chosen four pools: above-ground gold, central bank foreign exchange reserves, corporate treasury assets, and global currency (M2).

While these pools do not represent all forms of monetary value, or all of the possible demand that may flow into bitcoin, we find these pools likely represent the lion’s share of the future potential of bitcoin. Thus, we believe they represent a reasonable and simple upper bound to the future value that could accrue to bitcoin.

The TAM model relies on bitcoin gaining market share from these separate value pools, with the following four assumptions:

The first assumption is that bitcoin could completely or partially replace the use of gold as a monetary store of value. Bitcoin’s fixed monetary properties are superior to gold while having a few current shortcomings in its relational properties, such as volatility and liquidity, which we expect will each improve with greater monetary usage.
The second assumption is that bitcoin will, to some extent, be used as a reserve asset by central banks, who will continue to issue their own local currencies on top of a set of monetary reserves including gold and foreign exchange assets. However, at the time of writing, very few central banks have direct exposure to bitcoin as part of their FX reserves.
The third is that bitcoin is and will continue to be used by businesses as a long-term treasury asset or cash reserve, and thus could replace some or all of the currently held monetary reserve assets, such as US Treasury Bonds.
The final is that bitcoin is being used by individuals as a general savings tool and can therefore continue to take market share from commonly held global government monies (M2), which we separate into frontier, emerging, and developed market currencies based on MSCI’s Country Classification Index.

Due to the likelihood of these pools having some overlap, our assumptions may somewhat overestimate the total sum of current monetary demand. Readers should be aware that an error like this will cause slightly higher estimates in valuing bitcoin.

Bitcoin Market Capture of Current Monetary Value

Our model offers several scenario-based estimates for the amount of monetary demand bitcoin could capture in the future. Each scenario assumes a different combination of percentages that may accrue from each value pool above, and is separated into optimistic, baseline, and pessimistic cases.

Note that bitcoin may eventually receive none or all of the demand from each value pool, and such demand will almost certainly be changing to varying degrees at different times. This is why, for the sake of simplicity, we take a long-view forecasting several potential end-state market capture scenarios.

Our hypothesis is that bitcoin has the greatest opportunity to gain use in countries where bitcoin’s current adoption rate is already the highest, and whose economic environment makes bitcoin’s unique combination of monetary properties highly competitive.

Therefore, the populations most likely to see bitcoin adoption are those who are already in touch with current bitcoin holders, and/or those who have experienced repressive monetary conditions such as high inflation and capital controls, making bitcoin both more accessible and desirable compared to other competing monies. This approach ultimately favours future bitcoin adoption in emerging and frontier economies as opposed to developed economies.

To account for where Bitcoin is currently being adopted in the model, we use Chainalysis' most recent Global Cryptocurrency Adoption Index. Only the top 20 countries in this index are classified as frontier, emerging, or developed countries in the model, the remaining countries are classified as ‘Other’ and assigned a fixed, relatively lower capture percentage, due to our assumption that bitcoin being used proportionally less as money in these countries.

We apply similar logic to our estimates of enterprise adoption where we favour industry sectors that are most closely related to bitcoin, such as energy and technology. Because the number of public company balance sheets holding bitcoin only counts to 39 we find the sample size is too small to draw any specific conclusions from the current level of adoption.

However, several pieces of qualitative evidence alludes to energy and technology companies potentially being more likely to own bitcoin. For example, Bitcoin miners, classified as part of the technology sector, have historically held portions of their treasury investments in bitcoin. And, several power companies are already noticing the potential revenue opportunities of mining which may serve as a competitive advantage within the energy industry.

Conceptually, bitcoin and gold have several similar characteristics, such as being of finite supply and priced in US Dollars. They both are stores, or emerging stores, of value offering an element of diversification while being stateless or quasi stateless assets.

We have seen evidence of investors at times favouring bitcoin investments over gold. Consequently, we assume that bitcoin is likely to cannibalise a significant portion of gold’s store of value market share.

Bitcoin is not part of central bank forex reserves but could, over time if the bitcoin network continues to grow. We have already seen this happen in Iran and El Salvador. As this is still more of a concept than a reality our adoption assumptions are modest.

Timeline Period

Our model evaluates bitcoin over a fixed 30 year period from network inception to the year 2039. This assumes that bitcoin will be adopted on a timeline similar to previous technological advances such as the internet, mobile phones, and social media.

Note that we do not expect bitcoin to reach this supposed saturation level in the same timeline of previous technological breakthroughs. However, because bitcoin is globally accessible and digital, it can spread freely and rapidly, unlike previously popular technologies that require infrastructural improvements such as broadband, semiconductors, and storage. With this infrastructure already in place, we believe that such a timeline is a reasonable approximation for this model, as bitcoin could actually be adopted relatively quickly compared to other paradigm-shifting technologies.

Demand Curve

To estimate the evolution of bitcoin acceptance in competition against other global monies, the model applies Verhulst’s S-curve as a fitting technique. The Verhulst curve applies a logistic function originally developed from ecological studies that observed the population growth of rabbits constrained to limited resources. We however use it in a much more abstract sense, simply by leaning on its general shape over the course of our modelling period.

The curve is shaped like an ‘S’ where the early stages of growth are exponential, then once saturation begins, growth slows and becomes more linear, and finally, the curve flattens as growth tapers toward a maturity state.

Thus, it is assumed in the model that bitcoin, like other technologies, might follow a similar ‘S’ shaped growth pattern towards a theoretical maturity phase where bitcoin’s properties and potential have been discovered worldwide.

Overall, our model assumes that the Verhulst S curve is a reasonable enough estimate of short- to medium- term demand growth for bitcoin as it progresses towards the long-term potential value captured from the above-mentioned monetary pools.

Supply Curve

To arrive at potential dollar-denominated projections of bitcoin’s price in each of the model’s scenario-based estimations, we assume the same future bitcoin supply curve implied by its algorithmic, fixed monetary policy.

Bitcoin’s available supply at any moment can not be exactly known and precise quantities at future points of date and time and must be inferred from the expected future frequency of blocks found by miners. In the long run, projections of bitcoin supply will nevertheless be an almost perfect representation of the actual amount of coins in circulation. However, readers should note that bitcoin has been issued slightly faster than initially projected due to increasing competition among Bitcoin miners to create blocks, and if this trend continues, the model may slightly underestimate supply of coins circulating in each year.

In an attempt to use a conservative supply measure, we have gathered daily future estimates from data provider Glassnode and applied only the year-end supply estimates in our calculations. We also do not adjust these estimates for coins that are likely unspendable or irrecoverably lost.

Investor Accessibility

Perhaps needless to say, given the preference of simplicity, we assume that bitcoin will continue to be openly accessible to investors worldwide and will therefore not be significantly impacted by any future adverse regulation, internet censorship, or other frictional forces that may discourage bitcoin’s monetary usage.

Model Results

Our results reveal that bitcoin remains a maturing asset that still has a long way to go in capturing a significant fraction of the market share of global monies. At the same time, even small flows from competing monies into bitcoin could have a large impact on the still comparably tiny bitcoin market.

In our baseline scenario, we assumed that bitcoin could potentially capture 3.50% of the current global monetary market in aggregate over the next 17 years. Despite being a seemingly low percentage, at this level of demand growth, the model estimates a current value capture of roughly $62k per coin.

However, it has also become obvious to us just how sensitive modelling the value of bitcoin is in the context of assuming its future growth rate of monetary demand. Increasing bitcoin’s terminal capture percentage of broad money to just 7% within our baseline scenario suggests a current bitcoin value capture above $100k.

The future value of bitcoin is therefore heavily dependent on its future rate of capture from competing pools of monetary value. We find that the estimates of the TAM model may actually be best represented as a matrix. The rows representing each of the addressable markets in question and the corresponding columns representing the percent market share captured from these markets by bitcoin.

Alternatively, below is a matrix representing combined scenarios of only the Global M2 and Gold markets, with the percent market share captured by bitcoin represented on both the columns (M2) and the rows (Gold).

Model Limitations and Sources of Error, Summarised:

No model is free from error and its assumptions can lead to elevated margins of such errors. Our model is no exception, below we list several key examples of potential limitations or result-sensitive assumptions in our attempt at modelling the future value capture of bitcoin:

The availability of data, both historically and at present, on bitcoin ownership by entity and geographical region is virtually nonexistent and likely infeasible to accurately collect, limiting our ability to accurately estimate specific adoption among monetary user groups over time.
There is little to no evidence of when and to what extent future demand will be captured by bitcoin. The end of model potential price projections may therefore be flawed. For example, we recognise that bitcoin may ultimately capture 0% of monetary demand from any given monetary value pool.
The number of years to reach a saturated adoption level generally varies per technology, therefore the analysis period of the model may over- or under-estimate the pace at which global demand may be captured.
The demand curve of adoption used in our model is based on an ecological approach that traced the population growth of rabbits with limited access to resources, and has been witnessed in the adoption of other technologies, but may not accurately reflect the rate of demand growth for bitcoin.

The Potential for Bitcoin to Increase in Value is Only Limited by Global Monetary Usage

From a valuation perspective, bitcoin has a large potential upside even if the extent of the upside is unknowable in advance. The global market for money is the largest in the world and the potential benefits of owners of successful monetary assets is significant.

In less than 15 years, bitcoin has already established itself as a nascent, yet serious contender in the global competition of monetary items.

At CoinShares Research, we believe bitcoin’s fixed properties are highly unique among existing global monies, and while its relational properties certainly need improvement, they are also difficult to replicate and develop, and at the end of the day, must grow organically.

Our thesis is that its fixed properties are highly beneficial and unchanging, such that there is no deterioration in bitcoin’s ability to perform the core functions of money over time. However, its relational properties will continue changing for the better as its usage grows. As an added bonus, contextual changes in the global economic environment may then also favour bitcoin.

Taken together, these factors suggest that bitcoin will continue to absorb an increasing share of global demand for money.

Overall, we find this TAM model is straightforward and helpful to understand the growth potential of bitcoin as money, and how incremental adoption can have a significant impact on its value capture. Additionally, our inputs are modular and relatively easy to replace and source, so it’s highly encouraged that readers use them with your own assumptions that fit your own individual theses.

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