capriole_charles

Has Metcalfe's Law Stopped Working for Bitcoin?

BNC:BLX   BraveNewCoin Liquid Index for Bitcoin
Metcalfe's Law has been successfully used to value a variety of network effect technologies and businesses, including Facebook and Tencent.

Applying Metcalfe's Law to Bitcoin , using "Daily Active Addresses" (DAA) as the "n" value, yields interesting results.

Historically, Bitcoin has tracked the Metcalfe Law Fair Price reasonably well. A number of studies have been performed over recent years which validate this and have used various derivations of Metcalfe’s Law. Note: this indicator sticks to the original Metcalf’s Law.
Prior to 2018, every time Bitcoin was above the Metcalfe’s Law fair price (calculated using a default “A” of 0.5 here), a bubble had formed, and price quickly reverted back down to the mean.

Nonetheless, since February 2018, Metcalfe's Law Fair Price has remained below the actual Bitcoin price, suggesting Bitcoin is currently overvalued.

There may be a few reasons for this:

1. Possibility A: Bitcoin may still be extremely overvalued. Since the December 2017 peak, Bitcoin has only reverted to the Metcalfe’s Law Fair Price briefly during the December 2018 bottom. If this case is true, there could be further to fall unless DAA numbers pick up to fill the gap.

2. Possibility B: The introduction of side-chains, private transactions and the Lightning Network may have fundamentally altered the effectiveness of using DAA to value Bitcoin . As more daily transactions are completed off-chain, or on large platforms/exchanges which use fewer addresses, the relative number and growth of DAA may be misrepresented and artificially low. In this case, DAA as it is reported today is no longer useful in assessing the fair value of Bitcoin with Metcalfe’s Law and this Indicator is effectively useless.

3. Possibility C: Neither of the above are true. We are just in an anomalous period in which price and Metcalfe’s Law Fair Price have deviated from the mean for an extended period (and will meet again in the future, potentially at a higher price).

4. Possibility D: Metcalfe’s Law doesn’t really work for Bitcoin .

I am inclined to believe Possibilities “C” and “D” are unlikely. Given the way Bitcoin infrastructure is being developed and used in 2019, Possibility “B” seems the most likely, as this case is supported by the fact that a number of other metrics indicate that Bitcoin is currently on the lower side of “fair value” (including Dynamic Range NVT Signal).

If Possibility “B” is false, or the impact of private network address usage is negligible, the Bitcoin network may not in a healthy state, with DAA values basically flat for the last 3 years.

Regardless, Possibility “A” remains a candidate. Only time will tell. It will be interesting to check back on this indicator in 12-24 months time. Hopefully this indicator has been proven redundant by then.
Oct 12
Comment: Latest script for this idea available here:

Nov 22
Comment: As speculated above, I am now of the opinion this metric should for the most part be retired.

So long as Bitcoin adoption and usage tends in its current direction (off-chain and centralized); this metric underestimates Bitcoin's value.

If you follow me, I have analyzed and written on this topic recently.

However, if you ever see Bitcoin's price below Metcalfe's Law Fair Price again, you know you are getting a bargain!
👑 Beat Bitcoin with the TradingView "Trend King" algo --> http://www.capriole.io/indicators
very interesting. perhaps the noticeable deviation in the DAA's ability to accurately predict fair price values around early 2014 (arguably late 2013 even) is because of the spike in alternative crypto assets that flooded the market at the time? prior to this market expansion, metcalfe's ability to present fair price in a direct network scenario is reliable, but once the 2013 hype of BitCoin married the introduction of alt coins, the model would need to adjust for indirect network effects as well somehow. preliminary thought, mostly rambling. i love this idea...
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Very good analysis! Finally, something really beneficial. The others just paint nonsense. This has value. Thanks..
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capriole_charles DalimilBrodsky
@DalimilBrodsky, thank you! Most appreciated.
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