Some will understand - the rest will regret.
I will use no superlatives. I'll just explain it as well as I can. It's up to you to find the right adjectives.
Consider these questions:
Have you ever missed the next big cryptocurrency?
Do you hold less than 10 different coins?
Did you underestimate the rise of DASH?
Have you ever taken profits way too early?
Would you like less uncertainty?
Would you be interested in a modest average return of 300% per year?
Do you think cryptocurrencies as a whole will grow massively in the near future?
Have you made less than 250% profit in the last 4 months?
If you answered yes to any of the above questions, this is something for you. A risk/return ratio like this has never existed. The risk level of an ETF, but a return expectation of a unicorn.
Bit20 follows the value of the top 20 cryptocurrencies by market cap. If one goes down, another replaces it. It will always "contain" the most successful ones and drop the rest. If all of cryptocurrencies goes down, so will Bit20. If all of cryptocurrencies ever grow in value, Bit20 will capture the best of it. Here's the wierd part: the supply is unlimited.
The interesting development of the price of the index
20?
According to the creators, the reason for having 20 coins in the index was that there were so many interesting projects with lots of potential outside of the top 10. Thus 20.
Because of a natural phenomenon called Power Law, the top 20% will represent 80% of the value of cryptocurrencies, and likewise 4% will represent 64% of all the value. Following the few at the very top is a safe strategy to capture the best value.
Is it a fund?
No. Bit20 isn't a basket full of top 20 coins. You don't give your money to someone else to buy what he thinks are the best bets. You don't trust anyone with your money. It's all trustless.
What is it then?
Bit20 is a smart contract. It is also an asset that is guaranteed by the smart contract to be worth at least the calculated value of the composition of the top 20 coins. It is backed by something else worth at least 175% of the Bit20. Usually 250% or more.
How does this smart contract work?
It is a so called "Contract For Difference". A person can create any amount of Bit20 by letting the smart contract lock away at least 2.25 the value of the Bit20 to be created. So every $1 worth of Bit20 is backed by $2.50 or more. It's like a bank that can print new money - only that a bank needs 5-10% collateral, whereas Bit20 requires 225%. Can you see the difference? The money banks print are backed by 5% of their worth, while Bit20 is backed by 250% of it's worth. No worry about "bank-run's".
Now he can sell it to someone else for any price. Any time a holder of Bit20 wants to, he can convert the Bit20 to what it's worth in the underlying asset. The liquidated Bit20 will be destroyed, and the creator of the Bit20 will get what's left over. If the value hasn't changed, he will get back $1.50. The people borrowing Bit20 into existence don't want this to happen, and so the will always offer to buy back any Bit20 for more than face value.
This is what a user see's when trying to set a too low collateral:
In fact, when someone wants to "force settle" Bit20 like this, the protocol chooses the person with the least collateral. This incentivises borrowers to keep their collateral high - to not be the first target.
If the person wants his collateral back, he must buy Bit20 from the market in order to release his collateral. Once he does this, the Bit20 is destroyed and reduced from the supply.
How is the value calculated and how is it enforced to the Smart Contract?
- The rules are set in the beginning. They define how the coins are chosen and how the weights are decided. It consists of 20 coins, and none of them can have more than 10% weight in the index. Otherwise it would have been 70% bitcoin, which of course wouldn't be optimal
- The composition is checked once every month and published permanently on the blockchain
- The Miners independently calculate the value of the composition from different price feeds and constantly publish the new calculated value to the blockchain
- The protocol calculates the average of the published price feeds, and drops the ones too far from the average. This eliminates the possibility of some party manipulating the price. See schelling coin for an explanation.
- If a Miner provides a wrong price feed, he will eventually loose his position.
- If miners collude to manipulate the price feed, they risk undermining the value of the underlying system, and thus their own holdings.
Which blockchain and what currency?
The Blockchain is Bitshares and the underlying currency is BTS.
Why would someone lock in his money to back Bit20?
That's a good question. The value of Bit20 will probably rise, so the person must keep adding more collateral. Well, there is a reason:
After locking in his collateral, he can sell the Bit20 he just borrowed. Say he locked in 300 BTS and Borrowed 100 BTS worth of Bit20 (that's 300% collateral). He manages to sell the Bit20 for 150 BTS. Now he has more money; instead of 300 BTS he has 450 BTS. 300 of that is locked away from him, and 150 is liquid. If the value of BTS increases by 100% compared to BTS, he will have to pay half the price to get the Bit20 back, and he will have made some profit. More profit than if he had just held some BTS. This is called shorting. You short sell Bit20 because you believe it's value will decrease compared to BTS. That's a brave bet, but obviously someone is willing to make it. Otherwise there would be no Bit20 in existence.
As you probably understand by now, the more BTS is locked in in contracts like this, the less liquid BTS supply there will be. This usually means that the price goes up. For each $1M worth of Bit20 to be created, probably some $3M worth of BTS will be locked in. Rinse and repeat. Once people start finding out about Bit20, and if they understand what an amazing asset it is, there will be quite some demand. This will give BTS holders confidence to Borrow more Bit20 into existence.
As you probably notice, the price of Bit20 doesn't always increase in BTS. This creates opportunities for shorters.
If Bit20 was backed by USD, no-one would ever short it. The supply of Bit20 would have no practical effect on the supply and value of USD. However, since Bitshares market cap is relatively small and the supply is fixed, Increase in Bit20 supply will decrease the supply of BTS. This creates a positive feedback loop, which makes it work. So boiled down, people who expect there to be lots of interest in Bit20 will short it, and those who believe in Bitshares in general.
Conclusion
Bit20 is very likely the best investment in existence right now. Of course there are even better possibilities out there, and lower risk levels also, but nothing near this combination. The problem right now is how to obtain some. Bit20 is rarer than diamonds. You should try anyway. Set up a buy order and hope for someone to sell you some. It's practically worth anything you can get it for, but try not to pay more than a 50% premium. In the next few articles I will explain why.
Here's a guide to obtaining some Bit20.
Make sure to also read the information on the official Bit20 website.
In the next article, I will tell you why you might not want some Bit20. I will also analyze the nature of Bit20 in more depth.