Crypto mining companies can be a very powerful way to play the current crypto landscape. They are essentially a levered play on the price of Bitcoin (i.e. the underlying cryptocurrency being mined). For example, if Bitcoin goes up 3% on any day, the mining stock may go up 7%. If Bitcoin goes up 30% in a month, the mining stock may go up 70%. You get the idea from there.
The reason why I prefer mining stocks, at this point, is because there's already an embedded risk of timing the current crypto market. We may be at the top. There is a lot of banking on when the Fed pulls liquidity and potentially crashes the market. Because of that risk, I'm of the mentality that I might as well take more risk on a smaller dollar amount. Instead of investing $15,000 in crypto, I'd rather invest $5,000 in the mining stock. This preserves 75% of my capital, and I can do some fundamental analysis on the mining operation of the company I'd invest in. This way, I can also feel comfortable with the volatility for however long I decide to hold the position.
Either way, after performing my analysis, it makes sense to hold both crypto and mining stocks in your portfolio in my opinion. Because with a mining stock, you are ultimately buying business that can strategically profit from crypto without trading it yourself. This is where the fundamental analysis helps.
How does Bitcoin mining work?
How does Bitcoin mining work? If you already know, then feel free to skip this because I'm going to explain "to a 5-year old".
I'm going to put a random number between 1 and 100 into an envelope, and ask you to guess the number. If you guess any number equal to, or less than the number in the envelope, you're rewarded with Bitcoin. That's essentially what miners are doing. Except now, imagine tens of thousand of people guessing 16-digit hexadecimal number. It can get quite difficult. In fact, the current difficulty of guessing correctly – which adjusts based on how many people are guessing – is 13 trillion. This means you have a one in 13 TRILLION chance of guessing correctly. But if you're correct, you're rewarded (currently) with 6.25 bitcoin, or approximately $300,000. And this reward, is halved about every 4 years.
This is just a very complex way of keeping the bitcoin system decentralized and secure with thousands of people competing for a financial reward. And, it happens to be working.
Crypto mining, however, would be very difficult to be profitable for one person guessing at numbers. This is why the more people you have working together, the higher your chances at guessing correctly and being rewarded (i.e. mining pools).
For miners, the more hash power (i.e. computational power) you have... the more likely you'll be profitable.
What moves Crypto Mining Stocks?
To evaluate the mining stocks, we'll have to first understand what moves them (i.e. the fundamentals). Of course, there will be some divergence from the fundamentals, which is why we can exploit them to our profit if we can find them. That's why I created the Google Sheet, which I'm sharing with you here. Stay with me!
The biggest factor that we don't control, and is also the most volatile, is the price of bitcoin – which is our reward. You can predict where you think it's going to be, and base your decisions accordingly; but you can also take advantage in any inefficiencies between the price of bitcoin and the stock market (i.e. arbitrage).
The main factors in control of the mining companies are it's operational costs (including energy) and its hash rate (i.e. computing power).
So, in order to assess the Bitcoin (or any crypto) mining companies, we need to know their hash power and their margins.
Thankfully (for you) I've done the work.
Which Crypto Mining Stock To Buy
I analyzed seven crypto mining stocks for the following:
- Price of Stock – For obvious reasons.
- Market Value of Crypto on Balance Sheet – Because of how volatile cryptocurrencies are (and accounting rules) the actual value is never reflected in the books. It's important to constantly assess the market value against their stock price, because we know their most tied to the price of Bitcoin that they're HODLing and mining.
- Current and Expected Hash Power – To calculate the premium we're paying for the computational power.
- Gross & Operating Margins – To asses their operational efficiency (i.e. use of power and G&A expenses).
- % Held by Insiders – Unfortunately, a lot of people are in crypto to make a quick buck. They're not all "in it for the technology". I want to know that they are.
You can find the detailed spreadsheet below (for premium subscribers).
This can change at any moment, because of market inefficiencies (i.e. the pricing of the different stocks), which is why the dynamic Google Sheet is so important to monitor before buying.
Based on current prices my favorite pick is Bitfarms Ltd, follwed by Hut 8 Mining Corp and HIVE Blockchain Technologies Ltd.
I like Bitfarms because:
- They are actively mining and selling bitcoin – which means they know how to profit from it, and not just HODL it. If I want to own Bitcoin, I would own Bitcoin. I want invest in a business that's mining it.
- Their Price-to-Book (adjusted for Market Value of Bitcoin) is the second lowest, after Hut 8.
- The price premium for Future Hash Power is the lowest. Aside from the price of Bitcoin, that's where the growth will come.
- Their margins are second-best in the industry (behind Argo Blockchain PLC).
- Their insiders own 25% of shares – the most in the industry – and are all experienced and (from my assessment) "in it for the technology".
Some notable mentions:
- Hut 8 Mining Corp (HUT) has the lowest price for bitcoin holdings on the balance sheet. The premium for future hash power is second-to-Bitfarms. I'm not impressed with their margins, as this is an area of improvement for them.
- HIVE Blockchain Technologies Ltd (HVBT) is the only Ethereum miner and has significant exposure to it on its balance sheet. Thus making it a good option for Ethereum bulls or diversification. I also believe their stock is undervalued for the recent Ethereum run up, as they haven't reported since December 2020. But, the valuations for Bitfarms and Hut 8 remain more attractive.
- Marathon Digital Holdings Inc (MARA) is an interesting play, because they don't invest in the infrastructure – but only the miners. This gives investors a higher leverage to Bitcoin. Their gross margins reflect this, but they are paying too much in stock compensation resulting in negative operating margins. Their insiders are only holding 8% of shares. I believe they are just capitalizing on the bull run, and not as committed to the actual business model (unlike Bitfarms' team).
An Important Disclaimer
Finally, I would like to be very clear in saying this is NOT a recommendation to buy crypto mining stocks right now. Any positions would have to be opportunistically entered and exited, given where the market is right now (in my opinion). I am interested in being a long-term investor in Bitfarms, but will enter my position slowly, gradually, and opportunistically.
If you're interested in being alerted when I trade, then make sure you're on the email list as I'll be setting something up shortly 😉
Enjoy the weekend, and happy investing!
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