Bitcoin (BTC 0.37%) mining stocks have easily outperformed Bitcoin this year, and it's not even close. Through the first six months of 2023, the nine biggest publicly traded Bitcoin miners were up an average of 257%. In comparison, Bitcoin is up 76% year to date.
But that recent performance doesn't necessarily mean Bitcoin mining stocks are a better investment than Bitcoin. If you're a long-term buy-and-hold investor, there are three key factors to keep in mind as we head into the second half of the year.
Cyclical nature of Bitcoin mining stocks
It might sound obvious, but Bitcoin mining stocks are highly correlated with the price of Bitcoin. They go up when Bitcoin goes up, and they go down when Bitcoin goes down. In a bull market rally for Bitcoin, such as we've experienced in the first half of 2023, this makes them very attractive investment targets. However, during a bear maket, this makes them terrible investment targets. Simply stated, it's nearly impossible for them to turn a profit when the price of Bitcoin is nosediving.
NASDAQ: RIOT
Key Data Points
We just saw this scenario play out during the crypto winter of 2022, when investors began to give up on Bitcoin mining stocks. With the price of Bitcoin down significantly, these miners become big money-losing operations. So, before you start buying Bitcoin mining stocks, be sure you understand the cyclical nature of these stocks. Since they are so highly correlated with the price of Bitcoin, they share the same volatility.
The Bitcoin proxy effect
There are several well-known stocks that are considered Bitcoin proxies simply because they have so much exposure to Bitcoin. Chief among them are top Bitcoin mining stocks such as Riot Platforms (RIOT +15.33%) and Marathon Digital Holdings (MARA +7.11%). Not only do these mining stocks have business models that are almost 100% based around Bitcoin, they also hold an enormous amount of Bitcoin on their balance sheets. Thus, they are arguably as close as you can get to buying Bitcoin without actually buying Bitcoin.
Image source: Getty Images.
From my perspective, this Bitcoin proxy effect helps to explain why Bitcoin mining stocks are absolutely trouncing Bitcoin this year. For institutional investors that are unable to buy Bitcoin directly, getting exposure to Bitcoin mining stocks is a useful proxy. That's a great opportunity over the short term, because there's obviously a lot of pent-up demand for Bitcoin from institutional investors.
But, over the long haul, the market will see the emergence of new investment products for Bitcoin, such as new spot Bitcoin ETFs. In June, BlackRock (BLK +0.00%), the largest asset manager in the world, made headlines with its application for a spot Bitcoin ETF. That was quickly followed by other investment firms filing for spot Bitcoin ETFs. As these investment products eventually get approved by the SEC, the Bitcoin proxy effect is likely to disappear. Investors looking for Bitcoin exposure will simply buy a spot Bitcoin ETF instead of relying on proxy stocks.
Bitcoin halving in 2024
Finally, it's important to keep in mind that the upcoming Bitcoin halving, which is now scheduled for April 2024, is going to shake up the playing field for Bitcoin miners. In a halving event, which takes place only once every four years, the mining reward for Bitcoin miners is cut in half. This directly affects the top-line revenue of Bitcoin miners, and makes it imperative for them to have streamlined operations.
Thus, my expectation is that only the most efficient Bitcoin miners will survive. That's because energy costs for mining Bitcoin are off the charts, so only Bitcoin miners with the lowest costs will still be able to turn a profit. This might not affect Riot Platforms, which is generally acknowledged to have some of the lowest Bitcoin production costs in the industry. But it will certainly affect other Bitcoin miners that have very energy-intensive mining operations. So be careful which Bitcoin mining stocks you buy -- they're not all the same.
Buy Bitcoin, not proxies
Based on the above, I'm convinced that Bitcoin is the superior investment over the long haul. Mining stocks don't offer enough diversification, and thus will always be highly correlated with the price of Bitcoin. So why would you buy a very capital-intensive company instead of the underlying asset? Moreover, mining stocks are getting a big bump right now from the Bitcoin proxy effect. As soon as that proxy effect starts to dissipate, then the case for buying Bitcoin mining stocks is going to become even weaker.
Long-term, I'm bullish on Bitcoin. And I'm also bullish on companies that are building business models around Bitcoin. But there's simply no reason to buy mining stocks when you can buy Bitcoin instead.
