HODL is bad for Bitcoin


You've probably heard the catchword in the bitcoin/crytpocurrency world of "HODL!" Based on somebody's typo, it is an encouragement to hold on to your bitcoins rather than sell them as the price ramps up to crazy levels. If you're a true believer, you will HODL. Don't cave in to the temptation and pressure to sell (SLEL?) but be sure to HODL. (Previously I wrote about the issues which occur should Bitcoin's price actually stabilize.

I believe that the HODL philosophy is selfish and goes against most of what bitcoin stands for. Let's consider the latter one first.

The goal of bitcoin was to made a digital currency. People want a currency with all of Bitcoin's attributes -- its decentralized trustable blockchain, ability to do smart contracts, privacy of identities in transactions, security, and hopefully quick settlement. Indeed, if you ask a HODLer why bitcoin will be able to justify the high value they are waiting for, they will say that the system has this great value.

Of course, to be a currency, it does have to have a sustainable value. The design of bitcoin requires that value to compensate the miners, who are necessary for the system (as designed) to work. There is no need for that value to appreciate however, and in fact that is counterproductive. The more stable the value is, the better. There has to be a value but it does not matter greatly what the value is.

Bitcoin's clever design is mostly resilient to changes in that value. As the price of the coins goes up, mining reward goes up. That makes people spend more on mining hardware, but that raises the difficulty number so that eventually the mining reward again turns a decent but not obscene profit. (As I have written before, there is a much bigger problem after a large drop in price, because that can make all the "pure" miners suddenly find themselves unprofitable at once.)

It's valuable because it's useful. When it's too valuable, it's not useful

High volatility and high appreciation hurt the system. Almost nobody is using bitcoins to buy things these days. If you think they will go up, you HODL, you don't buy your groceries with them. If you think they will go down, you sell -- spending them is too slow a way to unload them.

This can be seen in the way the number of merchants accepting bitcoin, and the number of transactions being paid for with bitcoin has dropped. At Bitcoin's greatest time of fame and glory, its actual use is actually on the decline. In addition, the speculators have driven transaction fees through the roof, making it actually inefficient to use Bitcoin for its intended purpose.

Wait, you say, Satoshi fixed the number of total coins and had them mine at an ever decreasing rate because he wanted deflation. I think it's better expressed as not wanting inflation, as comes with currencies with an ever expanding supply. Deflation is not good for anybody, except HODLers.

Unpredictable change in value damages one of the more useful features of cryptocurrencies -- smart contracts. You don't want to write a long term contract (smart or otherwise) in bitcoins, because by the time you settle the contract, they might have a radically different value. It's barely doable, and quite expensive, to buy options or hedges against such changes in your contract.

Much argument has been had between economists and boosters of Bitcoin over whether the traditional economist's view of deflation as bad is the right view. Modest deflation, it can be argued, helped kickstart the currency into having a value. But there can be too much.

Where is the value?

Some people have amassed large fortunes in cryptocoins, though they are mostly "paper" (or rather blockchain) fortunes. Indeed, the message to HODL is a message to not turn the virtual fortune into a dollar fortune yet, or ever.

I can't avoid asking, though, just what those people did to earn that fortune? Most, but not all of the world's fortunes did involve the earner doing something of value to the world, for which they were rewarded. Yes, even the fortunes made by Wall Street bankers, usually derided in society, are strong "reward for value" in comparison to the returns of coin milers and investors. Most fortunes are made by building a product or service or funding people who did it.

This is not as true for Bitcoin. Early miners helped the system gain traction, but they did not contribute greatly to it. Bitcoin mining takes place at a fixed rate of one block every 10 minutes no matter how many people participate, no matter how much they spend on it. A group of 100,000 miners does not secure the system a great deal more than 1,000 miners, but it costs 100 times as much.

(Some of the early miners were, of course, people like Satoshi and other creators of the system. Few begrudge them receiving high value for what they built. It can be argued that the people who bought coins early, from those early miners, are no different from other investors, but this is less true. Normally, investors in early ventures don't pay off the founders. Rather, they provide the money the founders use to build what they build. It is later investors who reward the founders.)

In the never-ending debate about what a bitcoin's true value should be, one side advances that bitcoins have no intrinsic value, the way commodities or stocks can. The other side argues that by providing this highly useful system, with its immutable, trustable blockchain, and enabling transactions and more, the system is indeed highly valuable, and so the coins should be. The justification for HODL is that this value is going to become very great, so great that the good coins will someday trade for 10x or even 100x their already high values. And that they will stay there.

HODL and Hoard?

Most people shouting HODL are expressing their faith in their coins, and are doing so honestly. At the same time, it is hard to ignore one aspect of the way this is pushed as a group activity. The undercurrent of the HODL message is "we should all stick together in holding." If you don't HODL, you are not one of us true believers. That if we all stick together and HODL, we'll be/stay rich, but if too many break away, it ruins it for all of us. This is true, in that if a large fraction of coins are "hoarded," that does keep the price up. If you are a true believer, it stays up forever.

As such, the HODL message has a possibly unconscious selfishness to it. Please HODL, so I don't do it alone. There may also be a more nasty selfishness, where the message becomes "Don't sell yours before I have a chance to sell mine."

Faith and reality

It takes an extreme faith to HODL, and the application of social pressure is to some extent working. Centuries of rational advice on investing says that after an appreciation of this extent, it is highly irrational not to do some profit taking. While there is nothing wrong with investing money that you can afford to lose in speculative investments, many coins have gone up so far that the holders now have a large fraction of their personal net worth in the coins -- too large a fraction. Even if one is highly confident it is going up -- and you had better be to hold or buy at these prices -- nobody can discount the risk that it will go down, even potentially to zero if one coin is supplanted by another in the public eye.

People get fooled by the fact that they only spent a small amount to purchase or mine the coins they have now. That lets them imagine that if the coins move to zero, all they have lost is that small amount. This is simply not true. Every decision to hold at a given price is essentially the same as a decision to buy at that price. Because if you hold a million dollars of bitcoin, you could sell it, and have $1M in the bank. Then you could ask yourself, "Should I take my million and put it into bitcoins?" and if the answer is not yes, you should not be holding.

The HODL culture is pushing people not to be rational, and driving the price up more than it should, even if the eventual value will be the very high one HODLers believe in. In turn, that is destroying the utility of Bitcoin for the things people expect to do with it. Of course, while they may not be announcing it, lots of people are selling. Every transaction on the high volume exchanges that has somebody buying also has somebody selling. Every time you hear about somebody who decided to get into a coin, there is somebody else who decided to get out.

How to design a working coin?

This raises the interesting question? How do you make a virtual currency that maintains the right balance between having value (which is needed) while preventing it from getting so much value that it turns entirely into an investment rather than a tool?

Some answers have been attempted here. Some altcoins have been designed without built-in deflation, but of course they don't get attention -- why do you want to "invest" in one that's not going to keep going up. I am not sure anybody will until the bubble pops on the speculative coins.

There may be an answer from building exchange transactions into a coin's blockchain, plus a way to verify that they are true. In the end that may require trust of exchanges or oracles, something most crtypocurrency folks are loathe to adopt. Just as deflation has its problems, inflation -- which happens to most of the world's currencies and has made some currencies worthless -- is even more frightening to the crytpocurrency world.

Some people have introduced "stable coins" which are tied to physical assets or fiat currency. There is controversy right now around Tether, the largest of such coins, because audit results proving that they have the dollars in reserve to match the coins have not been satisfactorily released.

How to make a coin with a stable value will be the subject of a future article.


Isn't the problem with Bitcoin it's volatility? Why would anyone use it to pay for or sell anything when tomorrow that value could be entirely different? It seems much more an investment asset than a currency.

Nm, missed that last paragraph.

As Brad and many others have pointed out, its value depends on faith that it will eventually become a useful means of exchange, which it is not, yet.
I think it actually requires more than that, it requires that Bitcoin stay the biggest crypto currency, which will be no mean feat. We may end up with a myriad of specialised currencies fulfilling different needs allowing multiple crypto currencies to co-exist, but that would of course dilute the value if each.

I am pretty much staying away from the debate on how Bitcoin should be valued, because people get religious about it. Rather, this is an examination of HODL in the context of an appreciating or volatile coin. If its value collapses, or there is fear of that, it becomes another story. If it becomes flat it's a problem. It really only works with a consistent upward march, not monotonically increasing perhaps, but generally upwards as demand overstrips the limited supply. In that world, people want to HODL -- but not to spend.

minor ---> miner

Brad, how do you feel about FoldingCoin (FLDC; foldingcoin.net) white paper?

As long as the useful work is not remunerative, ie. Useful to the public good rather than commercially useful, it can be a nice idea. But it doesn't change the issues with pow a great deal

I wonder, if everyone converted to FoldingCoin, would protein folding researchers use less electricity?

The amount of electricity spent on bitcoin is so vast, their usage would be a drop in the bucket I think.

The problem is that bitcoin mining cost has to be at least equal to 1,800 bitcoins per day, from now on. At the current price, $12M of hardware depreciation and and electricity per day. But actually more if bitcoin goes up, or if people are convinced it is going up fast.

If we could repurpose all that bitcoin mining hardware for useful work, it's still better than not doing that. Please have a look at FLDC's "merged folding."

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