Tag: Crypto mining

Cryptocurrency Mining has to be Profitable

In essence, a cryptocurrency is nothing but a transaction system, a means of exchange. You can argue (as you can with all currencies) that it is also a store of value, but the only reason to store value is the intent to exchange it for something else at a later date. 

Every transaction system has a settlement system. For all digital currencies, the settlement cannot be physical. The main problem with the previous versions of digital currencies has always been that digital things can be copied. Cryptocurrencies solved this with distributed ledger and the mining process. 

The Mining Process is the Settlement System

 In a Proof of Work cryptocurrency, transactions are facilitated through the mining process. So, in the case of proof of work cryptos, such as Bitcoin and Dash, there has to be a mining process. For there to be a mining process, the mining has to be profitable over the long term. 

Think of it this way: If I can buy a Bitcoin for less than the cost of mining a Bitcoin, why would I mine Bitcoin? But if the miners would stop mining Bitcoin and rather buy Bitcoin, there would be no Bitcoin. 

But That’s not how it Works…

The Proof of Work system is beautiful in that way because it adapts over time. If the price of Cryptocurrency falls below the cost of mining, fewer people will mine, which means that the total Hashrate will drop. When the Hashrate drops, the difficulty rate drops, which means that the likelihood of winning the block reward goes up.  

This mechanism means that over the long run, a functioning cryptocurrency should provide proper incentives to the miners, that is mining yields. 

The Dash Example

Dash is a Proof of Work cryptocurrency. The Dash development community has been very focused on payments and on building applications for Dash to become an alternative option to payments. Although Dash seems to be gaining traction on many levels, the price of the currency has fallen drastically over the last 6 months. 

For Dash miners, this means that mining Dash has become unprofitable. In April 2019, one could buy a Dash mining contract from Genesis Mining that would have a current yield (current daily mining output/cost of a day of mining) of close to 100%. 

Currently, you can buy a 12 month Dash mining contract that will cost you $0.27 a day per 30,000 mh/s. The output, however, based on the current Dash to USD exchange rate will be about $0.19. 

So as a potential Dash investor, what does this mean? One of two things needs to happen. Either Dash miners need to leave the mining pool to make mining more profitable or the value of Dash needs to go up and above the cost of mining. 

More Thoughts on Crypto

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CLOUD MINING PROVIDERS | AN HONEST & UNBIASED REVIEW

Long story short, we believe that cryptocurrency mining has the possibility of becoming a major asset class. Somewhat paradoxically, we do not necessarily believe that Bitcoin, Ethereum or [insert cryptocurrency name] will necessarily skyrocket in nominal value. We believe that the mining process, in and by itself, can be a profitable endeavour, irrespective of how cryptocurrency prices and their respective market capitalization develop.

How? Well, imagine a scenario where there would be millions of different cryptocurrencies in circulation, each with its own purpose and use case. We are not saying that is the reality that we are predicting will happen. We are merely saying that is one of the ways this can play out. What we are saying is that in most of those alternate realities, mining and Proof of Work will play an important role. 

What is Mining? 

In all Proof of Work cryptocurrencies, the miners (or workers as they are also called) lend processing power to the system to facilitate transactions. As a reward, they get newly minted units of the cryptocurrency. Therefore, you could say that mining is a form of seigniorage. Seigniorage is basically a term for the profits made (normally by a government) by minting new currency. 

The role of miners is critical to the concept of decentralized currency, or consensus money, as the system does not rely on a central figure, but rather on individual actors that lend their resources to the network in exchange for the profit of seigniorage. 

Cloud Mining

Most ordinary people, we included, are not going to set up our own mining rigs and start negotiating with our electric utility company about favourable rates. Furthermore, if you want exposure to a particular asset class, you want to be able to get that exposure in a passive way. You don’t set up a business because you want exposure to equities, nor do you start underwriting loans to get exposure to the bond market. 

Cloud mining or mining as a service (MaaS) is a great way (at least in theory) to get exposure to the economics of cryptocurrency mining. A mining operation basically rents you a fraction of its hash power and in exchange, you receive the corresponding mining rewards, less a maintenance fee. 

Profitable Mining Contracts

We have tried out a few providers of cloud mining contracts. We have tried reputable providers, such as the Mining Pool of Bitcoin.com, Hashflare and Genesis Mining. 

It is worth noting that the profitability of mining can be very volatile from time to time. Irrespective of that, you would expect that the market for these contracts would be relatively efficient. You would not expect extreme differences in the profitability of the mining contracts. 

We find that if you are in the market to buy a mining contract for a modest amount (less than $1,000), you would be better off buying the cryptocurrencies on an exchange. But that defeats the purpose, remember. The aim is to earn a yield from mining. 

Some providers, seem to be outright scams, selling contracts that produce crypto at a steep loss. Hashflare.io, in particular, comes to mind.

Genesis Mining

Note that we are not endorsed in any way by Genesis Mining. The company does offer a referral code that customers can use to get credits, but we have never used it, nor do we ever intend to do. That would make us less objective. 

That being said, it is safe to say, that as these words are written, Genesis Mining has absolute superiority in the market. As far as we can tell, Genesis Mining is offering terms superior that all other providers we have tried out. This applies both in terms of the profitability of the contracts, as well as the fine print in their contracts 

More Thoughts on Crypto

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Cryptocurrency Mining | A Future Asset Class?

Our interest in the mining process, and in the economics of the cryptocurrency mining process, in particular, was piqued by Murray Stahl and the activities and research of FRMO Corp and Horizon Kinetics into Cryptocurrency. 

Mining as an Asset Class

During the FRMO Corp 2017 Annual Meeting, Murray Stahl gave the following example of the profitability of Bitcoin mining: 

To mine cryptocurrencies, you can buy servers and depreciate them on some sort of reasonable schedule, based on their estimated useful life. If we hold back enough cash to the equal or compensate for the depreciation rate, then the unit value will remain constant. As an example, if you depreciate $100 worth of equipment, and hold back $100 of cash from the mining profits, you have $100 less net equipment, and you have $100 more cash.

The book value will remain the same, and you basically pay out the balance of the profits to the shareholders. In that way, you could have a business in which you’ve created a new security that doesn’t fluctuate in price; it’s just the dividend payout that fluctuates. Sometimes the dividend is higher and sometimes it’s lower; people can live with that. But the accounting value will always be the same. 

That’s a complicated concept to absorb; sometimes I need to explain it five times for people understand, but that’s the way it works. Income is very important in modern-day asset allocation.

Horizon Kinetics has already raised funds for partnerships around cryptocurrency mining (or rather Consensus Money Seigniorage, as we believe they would rather call it). Furthermore, based on various statements made by Murray Stahl and his partner Steve Bregman, it is to be expected that Horizon Kinetics will expand its offering of mining-related investment products, most likely through a closed-end investment fund. 

The Profitability of Mining

The Economics of Mining has characteristics that make it feasible as an asset class, in our opinion. It should come as no surprise that profit margins in mining can fluctuate quite wildly. Why is that? The biggest factor is the fluctuation in the price of the cryptocurrency that is being mined. 

However, there are other factors that affect profitability:

  • The cost of miners (also known as workers) can fluctuate
  • The electricity prices can vary 
  • Machines can perform or underperform 
  • The Difficulty Rate and number of miners and nodes 

Nonetheless, as is the case with Bitcoin, the whole system is designed for mining to be profitable over the long term. As Murray Stahl explained in a Consensus Money Podcast: 

So, there were times when cryptocurrency mining went to break even. It happens. But it’s not going to stay there very long because cryptocurrency mining is designed to equilibrate. So let’s just say that it was unprofitable for a number of weeks. Well, most of these companies were very poorly capitalized. 

So they can’t operate without profitability. They didn’t have huge cash reserves to operate unprofitably. What they would do to save cash is that they would turn off their machines. Which you can do in 30 seconds. If they turn off their machines, what happens is that the difficulty rating? Which you will recall, is the probability of solving this equation. If they turn up their machines, the difficulty rating goes down because there are fewer machines trying to solve the problem. 

So when difficulty rating goes down and you leave your machine on, your machine necessarily becomes more productive. The probability of earning a coin goes up. So ultimately the whole thing is designed to equilibrate. 

So, I’ve never really seen it being, maybe I’ve seen it for a day or two, get modestly unprofitable. Of course, it really isn’t moderatly unprofiitable, even so. Because when people calculate the cost of mining a coin, remember they are adding in the hosting fee plus the depreciation. The depreciation is not a cash expense. So on a GAAP basis, you might not be profitable but on a cash basis, you’re very profitable.

As Cryptocurrencies gain acceptance and their user base grows, many of them will be designed to have miners facilitating the system and the transactions flowing through that system. As acceptance and usage grow, mining will become a part of the conventional capital markets and become an asset class. 

Investing in Mining as a Service Contract

What sets investing in mining apart from investing directly in the cryptocurrencies is that, with mining, you are not speculating on the price of the cryptocurrency. The mining operations are productive assets as they produce yields. 

Think of it this way: You could mine cryptocurrency but every time you get your mining reward, you exchange it for your local fiat currency. Once you have paid for your operating costs, you will have something left over. Your operations will yield a return irrespective of the price fluctuations of the cryptocurrency itself. 

There also exists such a thing as Mining-as-a-Service. There are a number of mining companies, that sell mining agreements to customers. These contracts can have durations, ranging from 3 months up to 2 years and are sold on a per hertz per-second basis. 

At How to Value Stuff, we have not been doing any mining ourselves. We are, however, active buyers of mining contracts. In our experience, although this differs widely between providers, mining contracts carry extremely high investment yields at the moment. We will publish more about our experience with mining contracts in future posts. 

More Thoughts on Crypto

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