Bitcoin is 29% overvalued.
That's according to the valuation model that provides one of the most compelling and useful perspectives on bitcoin's price. Based on something called Metcalfe's Law, the model calculates bitcoin's fair value at any given time to be a function of the number of bitcoins that have been mined up to that point. It was first proposed to me nearly five years ago by Claude Erb, a former commodities portfolio manager at TCW Group.
As you can see from the accompanying chart, this Metcalfe's Law model has done a good job countering both the exuberance that prevails when bitcoin is at or near record highs and the despair that accompanies bear market lows. It calculates the cryptocurrency's current fair value to be $40,100, 29% below its recent price.
Notice that this projection has nothing to do with who wins the presidential election in November. Many bitcoin traders believe that a Donald Trump victory would be bullish for the cryptocurrency, and its price did fall in the wake of Tuesday's debate between him and Kamala Harris. But the Metcalfe's Law model is based on just one input: The number of bitcoins that have been mined.
Bitcoin's long-term potential
One major implication of this fair value model is that bitcoin's long-term appreciation potential is quite modest. That's because there's a limit on the number of bitcoins that can be mined-a limit that is projected to be hit in 2140. If we plug that limit into the model, it calculates bitcoin's price in 116 years to be about $104,000. Relative to its current price, that's equal to a 0.5% annualized return between now and 2140.
There's no guarantee that bitcoin's long-term potential is really that low, of course. As statisticians often remind us, all models are wrong-but some are useful. The question posed by the Metcalfe's Law model is not whether it is right but whether it provides a helpful perspective on bitcoin's valuation. Its track record suggests it provides a useful contrarian counter to those hyper-bullish models that suggest that bitcoin's current fair value is in the millions.
The distinction between being "right" and being "useful" is also helpful when judging my column six months ago, the last time I last wrote about bitcoin's valuation. At the time, the cryptocurrency had just hit a record high above $70,000, double the $35,000 price that the model at that time calculated it to be worth. Bitcoin today is more than $10,000 lower, and 24% below its record high.
So the model was "wrong" when judged by whether bitcoin would soon trade at $35,000. But it still was very helpful in countering the exuberance that accompanied March's record highs.
It's a good bet that the model will continue to be helpful in the same way in the future.
Mark Hulbert is a regular contributor to MarketWatch. His Hulbert Ratings tracks investment newsletters that pay a flat fee to be audited. He can be reached at mark@hulbertratings.com.