Periodicity of Volatility in the Bitcoin Markets and Risk Management

Hey Everyone,

Today I'd like to talk about the periodicity of volatility in the bitcoin markets and how it might affect how you place stop orders.

First, it's long been noted that volatility in the equity markets form a U shape throughout the day.  Volatility during the market open and close are the highest with a pronounced lull in the middle of the day (some half-jokingly say due to traders taking their lunch).  Similarly, intraweek volatility also shows a U shape for many asset classes with Mon and Fri being the most volatile and Wed being the least though this effect is not as pronounced as the intraday effect.  Outside of these short term cyclical effects, some traders have noticed an October Effect (a number of market crashes happened in Oct so there may be some psychological effect here) and a January Effect (people dump losing positions for tax reasons in Dec and buy back into the market in Jan) but these effects are related to returns, not volatility, so we will not focus on them.

So it begs the question, do the bitcoin markets display periodicity in return volatility too?  Some traders on TradingView have found that large price moves often happen during and slightly before the New York and London open and closes.  If that's the case and if your trading strategies have a timeframe longer than a single day, it might help your risk management processes to factor out this persistent and periodic noisiness in returns during those times.  For example, if you believe bitcoin will go up over the next few days but you also want some downside protection in case you are wrong so you place a trailing stop 3% below the current price, you don't want random noise due to these New York and London "kill zones" to stop you out of your position when your trading idea over a longer timeframe was sound and the general market trend agrees with you.  Rather it would be better to have a dynamic stop which periodically adjusts for the extra volatility during these kill zones by going proportionally wider below the then current price during those specific times.  The longer the timeframe of your trading strategy and the closer you want to put your stop next to the current price, the more important this concept becomes.  If your timeframe is longer than a week, it might also help to apply this concept to intraweek periodicity (e.g. weekends are less volatile than weekdays).

Outside of managing risk in trading the underlying, once options markets develop in bitcoin, understanding the periodicity of volatility will help options market makers know when to widen their quotes and by how much, which can directly lead to less adverse selection and subsequently greater profits.

Kevin & Team Buttercoin

Hope you enjoyed this week's post. If you did please up-vote / like / share :D.  And if you’re a bitcoin trader, come visit us at Buttercoin for free bitcoin trading.

A Falling Bitcoin Price

Hi, I’m Kevin Zhou, Economist at Buttercoin a Silicon Valley / Wall Street backed Bitcoin Marketplace (sign up here).  Every week we take a look at what’s happening in Bitcoin and share it, here’s the latest. 

This week markets dropped from $320/BTC to $260/BTC amidst the Bitstamp hack before rebounding a bit to $300/BTC.  As I'm sure you all know, Bitstamp's wallets were compromised with an official announcement on Monday.  With the drop in price a day or two before this announcement, some suspect that there was insider knowledge of this breach and that this was responsible for the selloff.

Difficulty is set to go up by 12.5% in the next adjustment which suggests the past two weeks have seen the fastest block generation speed since early November.  Some of the selling pressure in the past two weeks can be attributed to this.  On top of that, end of 2014 may have seen some bitcoiners sell for tax reasons.  Of course we have to net these selling pressures against the increase in consumer demand related to google search volume spiking at the end of last year (mostly due to the Bitcoin Bowl): .

On a longer time horizon, bitcoin has dropped by about 60% over the past 6 months.  Some suggest this is due to dollar strength.  I think this can only account for a fraction of that effect.  The trade-weighted dollar index over the past 6 months shows about a 10% gain in dollar strength.  Moreover, dollar strength is arguably just euro and yen weakness rather than anything intrinsic to the buying power of the dollar.

Looking forward, a miner on /r/bitcoinmarkets shares his insights on mining economics and the mining industry in general:  He suggests that at a super efficient 5 cents/kwh (including hosting, electricity, employees, and other marginal costs) and the current difficulty (pre 12.5% jump), the marginal cost of bitcoin production is around $70.  He also suggests that most mining farms are well above that cost (e.g. ASICSPACE at 10 cents/kwh).  This suggests that the less efficient miners will get pushed out of business soon and margins are shrinking at a rapid rate.  He continues that the Chinese have stopped building mining farms since their electricity is too expensive.  Mining will continue to consolidate to the most efficient mining operations with the cheapest costs.  He suggests that Bitfury is currently one of the most efficient, weighing in at 5 cents/kwh with their self-run datacenter in Georgia.  Not much is known about 21e6's cost basis.  This is all very reminiscent of GPU mining saturation in 2011.

Other News:
  • Japanese police suspect gox was an inside job:  I'm not fully convinced that this was an inside job but I do think the missing coins are very closely related to the 2011 crash to $.01/BTC on gox.  Whether it was a hack or an inside job, it wouldn't surprised me if Karpeles covered it up in hopes of making customers whole through collecting trading fees by keeping operations open.
  • Bitmex launches their BVOL series, 30-day historic volatility futures contracts:  It's good to see these kinds of structured products come out.  I expect more structured products to be developed in the coming year.
  • Cointerra defaults:
  • Vault of Satoshi closes:  The team there has been working on a new project and, in light of some success, chosen to pursue that opportunity instead.
With so much blood on the streets from a year of a falling bitcoin price and the latest downturn from Bitstamp and with a sentiment of despair and nausea in the air, it may be a good time to buy some cheap coins.  Over a time horizon of a year or two, even with the remote possibility of the price dipping down to the marginal cost of producing a coin (i.e. sub-100) in the interim, I am bullish on bitcoin price.  Better infrastructure, significant merchant adoption, increased awareness, increased fiat troubles around the world and an increase of talented people working in the space suggest long-term prospects are good.

Kevin & Team Buttercoin

Hope you enjoyed this week's Bitcoin recap. If you did please up-vote / like / share :D.  And if you’re a bitcoin trader, come visit us at Buttercoin for free bitcoin trading.

How the US Marshal Bitcoin Auction Affects the Market

Hi, I’m Kevin Zhou, Economist at Buttercoin a Silicon Valley / Wall Street backed Bitcoin Marketplace (sign up here).  Every week we take a look at what’s happening in Bitcoin and share it, here’s the latest. 

This week markets traded between $365/BTC and $385/BTC.  Volatility has remained low with the exception of a sharp but minor drop on 12/4 from $375/BTC to $365/BTC.  Trading volumes continue to decrease.

News this week:
  • Second US Marshal bitcoin auction closes:
    • 50k BTC were auctioned off.
    • 11 bidders present.
    • Tim Draper wins 2000 of them.
  • In an Australian Senate Economics Committee inquiry, Mastercard argues for stronger regulation of bitcoin:
  • Coinjar relocates to the UK due to unfavorable bitcoin tax environment in Australia:
  • Rep. Steve Stockman introduces bill to impose a moratorium on new legislation regarding cryptocurrency for 5 years:
    • Also calls for bitcoin to be treated like a currency.
    • For tax purposes, the creation or purchase of bitcoin is not immediately taxable based on "fair market value" but only taxable after converting to fiat. Only then is net gain/loss calculated.
  • 3 top Dutch banks experiment with blockchain technology:
  • Venezuelan congressman Guido Ochoa buys HashFast in bankruptcy sale:
  •'s random number generator was compromised for a brief moment yesterday resulting in unsecure private keys being generated on behalf of customers:
    • Losses total around $100k.
  • BTCT and owner/operator burnside fined $68k by SEC for violating securities laws:
  • A good explanation of block withholding attacks on open pools:
    • Open pools are intrinsically vulnerable to block withholding attacks by solo miners and other pools.
    • This can be somewhat mitigated by giving a disproportionally larger reward to members which find the actual block in a pool but it cannot be completely solved for open pools.
This week, I'd like to delve into the second US Marshal bitcoin auction and how it affects the market.  Markets should only react to new, unexpected information.  The expectation that these Silk Road seized coins would be auctioned off by the government had already formed to some degree on the day the coins were seized and further confirmed by the first US Marshal bitcoin auction.  Thus the event of the second auction, itself, should have little market impact because it was, with near certainty, expected by the market.

There are broadly two types of bidders in the auction.  Those who bid under market price (short and long-term value seekers) and those who bid above market (long-term investors).  If an underbidder wins, they could either sell the bitcoin into the open market to lock in some profit or hold onto the bitcoins for a longer period of time.  Both of these behaviors are reasonable.  However, if an overbidder wins, the only reasonable behavior is to hold.  This is because the only reason someone would bid above the current spot price is because they are seeking to take a sizable long position in bitcoin while incurring less slippage than if that position was bought in the open market.  There would be no reason for someone to bid above market price only to win the auction and immediately it sell back to the market at a loss.

Therefore, if an overbidder wins, we can be reasonably sure that those coins will not be dumped onto the market and create selling pressure.  If opinions about the market are distributed between pessimistic on one side and optimistic on the other, you would expect that some people belong to the pessimistic side and some others to belong to the optimistic side and most people are in the middle.  If everyone was on the price-pessimistic side, some of them would just sell into the market until both sides become roughly balanced.  So of the 11 bidders, we can expect some of them to be underbidders and some of them to be overbidders.  This is expectation is amplified by the fact that some of the 11 bidders represent syndicates composed of many smaller bidders who all likely have differing sentiments about bitcoin price.  A lopsided 9-2 split is more likely to happen purely by chance than a 900-200 by chance.  In light of that, I expect most of the auctioned coins to be won at above market price and for those coins not be be dumped for some significant time.

Up until now, we've considered how auction winner behavior affects post-auction price.  How about the effect of expected winner behavior on pre-auction price?  If we expect most of the auction to close above market, does that lead normal market participants to buy and pump up the price knowing that there will likely be someone who bought at a higher price than them, who will not sell below that price?  Intuitively that might make sense but I would argue that it can't be the case.  Overbidders by definition are willing to pay more than the rest of the market so the reciprocal is also true: the market is only willing to pay up to a point less than the overbidders' price point.  The market sees the overbidder as overpaying in a sort of short-term winner's curse even if the overbidder ends up being right in the long run.

Therefore, I think we can reasonably assume:
  • The market expected the government to auction off those coins and continues to expect that the rest of the seized coins will be auctioned off at some time in the future.
  • A significant majority of the auctioned coins sold at a premium to market price.
  • Those coins won above market price will not be dumped in the near future.
  • Market price is a better reflection of short-term "true value" than the price at which the auction closes.
The last thing we haven't considered is that some bidders could trade on the open market leading up to the auction to influence the market price and subsequently the auction closing prices.  This is worth exploring further.

Kevin & Team Buttercoin
Bitcoin Trading Made Easy |

Hope you enjoyed this week's Bitcoin recap. If you did please up-vote / like / share :D.  And if you’re a bitcoin trader, come visit us at Buttercoin for free bitcoin trading.

Bitcoin Difficulty Suggests Rally

Hi, I’m Kevin Zhou, Economist at Buttercoin (sign up here) a Silicon Valley / Wall Street backed Bitcoin Marketplace.  Every week we take a look at what’s happening in Bitcoin and share it, here’s the latest. 

Every week we start by taking an overview of the market, followed by recent and notable news in the bitcoin space and finally a closer look at some part of the bitcoin ecosystem.  This week we focus on bitcoin difficulty slowing its ascent and its effect on the markets.

This week markets traded between $360/BTC and $395/BTC.  Trading volumes have been moderate and volatility has been relatively low.

News this week:
  • Western Union sees backlash after claiming copyright infringement on bitcoin spoof ad:
  • Kraken was selected to aid in the mtgox liquidation:
    • Liquidation will likely be quick and both gox creditors and Kraken stand to benefit.
    • Gox creditors get some portion of their money back while Kraken gets an influx of new customers.
  • Approximately 70% of bitcoins have not moved in 6 months:
  • Switzerland will treat bitcoin like a currency:
  • Dutch official says bitcoin likely not liable for VAT:
  • Australian Senate holds first hearing into cryptocurrencies:
Since early August of this year, bitcoin difficulty has doubled while the price has dropped around 20%.  Miner profit margins are thus being squeezed on one side by the increased rarity of finding a block as well as the decreased nominal value of the reward.

The previously steep climb in mining difficulty over the past 22 months has started to flatten out.  The next difficulty adjustment will happen in about 2 days and is expected to be +.86% (the lowest since January 2013).  Moreover, three of the last four difficulty adjustments have been below +3%.  Compare this to last October where we saw difficulty increases of over 25%-40% each time.  This slowdown shows that the amount (in hashing power terms) of mining hardware being added onto the network by yet profitable miners are nearing equilibrium with the amount of mining hardware being taken off the network by now unprofitable miners.  It suggests that ASICs are possibly hitting a saturation point in the network where for a lot of miners the marginal cost of producing a bitcoin is now equal to or above the price of a bitcoin.  It also implies the further centralization of mining power to larger miners with greater efficiencies of scale.

This also affects the bitcoin markets.  Since a flatter difficulty adjustment schedule implies blocks are being generated at close to 10 minutes per block the number of bitcoins entering the economy every day is slowing down.  Compare this to October of last year when blocks were generated at close to 7 minutes per block.  That means now the network generates about 62 fewer blocks per day than last October.  This is equivalent to 1550 BTC less influx in bitcoin supply per day which means significantly less selling pressure in the market.

In addition to directly less selling pressure, there are circular effects which are bullish on price.  For example, miners are more likely to sell when they think other miners are also selling so as to get in front of each other and not to get stuck with a worse price and possibly become unable to continue with operations due to constant operating expenses.  Miners are more likely to hoard when they believe other miners are hoarding.  In other words, all else equal (e.g. consumer adoption growth), a steeper difficulty climb implies more selling by miners and a flatter difficulty climb implies more hoarding by miners.

It takes about $1.33m of new fiat money coming into the bitcoin economy to buy up the total bitcoin supply increase of about 3600 BTC per day.  This is the lowest dollar amount it's been in a year and the lowest BTC amount it's been in almost 2 years.  In light of all this, I am strongly bullish.

Kevin & Team Buttercoin
Bitcoin Trading Made Easy |

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The 30k BTC Bear-Whale

Hi Everyone,

Sorry for the delay. It's been a hectic week for me in the markets.

This week markets fell from $390/BTC to $280/BTC, before coming up to $330/BTC where it sits today.  Once again, I maintain that this and previous drops have little to do with fundamentals and everything to do with short-term order flow imbalance.  There are three major factors at play: consumer buying pressure, merchant selling pressure, and miner selling pressure (most dominant).
  • Consumer Buying Pressure
    • Consumer adoption has generally been slower to grow than merchant adoption.
    • Consumer adoption could see growth soon due to Circle and Coinbase opening their brokerage business internationally once they ramp up.
    • Large funds (e.g. GABI) looking to get into bitcoin might have been buying on the way down and they might be waiting on an even lower price to fully buy in. They possibly contributed to eating through the 30k sell wall we saw over the weekend.  More on this later.
  • Merchant Selling Pressure
    • Merchant adoption continues to grow.  Coinbase seems to be focusing on fewer large merchants while Bitpay seems to be doing both large and small merchants across the board.
    • There's some nuance here on why merchant adoption would actually cause selling pressure when it has to be true that those bitcoins spent at these merchants must have been bought at some point in the past (or it may have been bought immediately before the purchase directly for the purpose of buying goods and services from the merchant).  In other words, any sell order processed by the merchant must have had a matching buy order by the purchaser sometime in the past.  So merchant adoption only creates net selling pressure if, on average, spenders do not replenish their spent bitcoins with corresponding bitcoin buy orders.
      • I would imagine that most bitcoin spenders are bitcoin believers and would actually replenish their spent coins thus capturing positive value in whatever bitcoin discount the merchant offered minus the fee paid to the broker.
      • But this could be a different situation for early adopters who, having not declared their gains on bitcoin to the government/IRS, are now spending bitcoin at merchants en masse to "cash out" without having to pay taxes they otherwise would have been subject to if they liquidated to cash first, especially if they have a lot of bitcoin.
      • I should say, as a disclaimer, that I do not condone tax evasion but this narrative would explain why merchant adoption creates strong net selling pressure and coincides well with the ideologies of many early bitcoin adopters.
  • Miner Selling Pressure
    • As difficulty continues to ramp exponentially, the cost of producing a bitcoin will also increase in proportion.
    • As the price continues to drop, it will eventually reach equilibrium with the marginal cost of producing a coin.
    • Then miners' profits are driven toward 0, all but the most efficient miners exit, and selling pressure subsides.
    • The fixed costs of mining hardware does not factor into this since those costs are sunk and the miner's decision to mine is solely based on whether the marginal cost of producing a coin (electricity; hosting) is cheaper than the market value of that coin.
    • Side Note on Mining Economics
      • Although for each miner with a fixed number of ASICS, bitcoin quantity produced decreases exponentially as difficulty ramps exponentially, for the mining industry as a whole, bitcoins are produced at a constant rate (a block every 9.5 minutes) and thus selling pressure is mostly linear with respect to time.
      • Miners have incentive to sell all their coins as soon as they are mined in an environment where consumer adoption is growing slower than the net inflation of the bitcoin money supply from mining (~3800 BTC per day). 
        • Actually this is still not counting other net outflows like merchant adoption growth.
        • There could also be a point above the break-even point where miners will actually choose not liquidate their coins if freshly minted coins carry a premium over circulated coins.
It seems that right now the dominant force is mining selling pressure but this will likely subside soon as miner profits get pushed toward 0.  Also in the short term, merchant selling pressure will slow down as the price gets too low for bitcoin holders to want to spend.  In the medium term, merchant selling pressure should be persistent.  If you buy the tax evasion narrative, this will pressure will continue until most of the unreported coins hit circulation or the IRS decides not to tax bitcoin appreciation.  Also, in the medium term we will likely see consumer buying pressure pick up as brokers like Circle and Coinbase expand their customer base.

30k BTC Bear-Whale

Sunday, we saw a 30k BTC sell limit order at $300/BTC in Bitstamp's sell wall.  There's been a lot of speculation on why it appeared, who was behind it, and whether it was manipulative.

At the time, some speculated that this was manipulation, that the whale was really a buyer and tried to use his sell wall to drop the price in order to buy cheaper coins.  Others speculated that this was an OTC play where the whale put up the 30k wall to keep the price low in order to buy a huge quantity of bitcoin OTC.  Yet others have said it was an early adopter who is naive about markets and how a large sell wall would net him worse a price than he could have gotten if he had broken his order into smaller chunks (or maybe the whale just didn't care).

Eventually, the wall got eaten by a number of market buy orders over the course of about 6 hours.  There were even some buy orders as large as 2.2k BTC.

I'd like to take a minute here and talk about this idea of "manipulation".  Everyone is always talking about manipulation in the bitcoin markets as if it were a simple thing to do like you might see in the movies or read about in a New York Times Best Seller.  I don't think this is the case.

A person who puts up a 30k BTC sell wall with the intention of driving down the price is only successful if the market believes his intention of selling 30k BTC.  If instead the market reasons that this 30k whale is trying to get it to panic because the whale really just wants to buy cheaper coins, the market would actually try to buy instead of sell to get ahead of the whale's buying intention.  But you could go one step further and reason that maybe this is what the whale wants the market to believe so, in fact, the 30k sell order is real and the market should actually sell in a sort of reverse-reverse psychology.  Obviously there's an infinite regress here.  So really the question is, what does the market actually believe? 

This depends directly on the aggregation of the meta-thinking levels of the market's constituents.  A market filled with level-1 thinkers (30k sell wall implies time to sell because a whale is selling) will sell while a market filled with level-2 thinkers (30k sell wall implies time to buy ahead of the whale who is really a buyer) will buy and so forth.  If the odd levels dominate the even levels, the market sells and vice versa.  Of course, it's not the number of L1 or L2 or L3 thinkers that matters but how capital is distributed between the levels.  So from the manipulation angle, a market's reaction to something like a 30k BTC sell wall is based on the capital-weighted distribution of its participants across the various meta-thinking levels.

My contention is that since most of the weak hands have already exited in Q1 of this year, everyone holding bitcoin right now is on average 1) at a higher meta-level of thinking than the market from Q1 and 2) more likely to be true believers of bitcoin and thus less willing to sell since they have continued to hold through the fall in price over the past few months.

Trying to induce selling through manipulation just doesn't make sense in this kind of market environment.

Moreover, any type of manipulation in general requires outlaying capital in some form which entails risk for the manipulator.  If the market reacts against the manipulator, he or she could stand to lose a lot of money.

Manipulation in general is very risky for the manipulator and, in my opinion, rarely actually happens.

  • Following a $50m Series B, Reddit announce it would 10% of the round's equity to its users:
    • They could do this through one of the existing smart asset platforms or through their own cryptocurrency (likely PoS since mining for equity seems beside the point).
    • Turns out they will probably not issue their own crypto:
    • They are currently leaning toward colored coins:
    • Might end up tying the new Reddit shares to Reddit Karma as a way to reward users who bring content as well as incentivize content finders away from "competitors" like (Fark, 9gag, StumbleUpon, etc.).  And even if we don't consider them competitors, any future possible competitor would have to contend to that as well as Reddit's network effects.
    • If they do tie equity issuance to content generation, they will also likely face more users trying to cheat the system.
    • Maybe they will decide to issue it based on a snapshot of karma at this point in time and then Reddit users with Reddit Shares can give microshares to other users as a kind of super upvote.
    • In any case, a novel use of cryptocurrency and wonderful idea.
  • CoinArch unveils bitcoin structured products:
    • Although the article says one of the products (Maximizer) is a reverse convertible (they make it sound like one but it's not), it's actually an uncovered OTM put write.  The customer of the product is essentially selling a put to CoinArch.  The payoff has limited upside and unlimited downside for him.
    • On the long side of the put, CoinArch hedges their BTCUSD exposure by buying BTC (delta hedge).  They dynamically increase and decrease their BTC holdings to stay delta neutral.  Of course, if the underlying gaps (gamma risk), their delta hedge will be off.  Given the turbulence of the bitcoin markets, gamma may be more relevant here than in most markets.
  • Russia in process of issuing ban on the emission or issuance of money substitutes likely to include bitcoin and other cryptocurrencies:
    • If pass in it's current form, the bill would fine individuals 50k RUB, officials 100k RUB, and businesses up to 1m RUB.
    • If passed, it would likely go into effect in 2015.
  • Deckbound brings collectible card games to the blockchain:
  • Using Bitcoin automated micropayments to create a sensory data marketplace:
  • Bitcoin SF Devs Seminar on CoinShuffle:
  • Overstocked hires Counterparty devs to develop crypto stock exchange:
    • XCP jumped 100% on the news before settling at around 50% higher than pre-announcement:
  • Ethercoin started trading on Bittrex.  Ethercoin is a claim on ETH to be delivered once Ethereum launches.
    • The Ethercoin creators have proof-of-reserves showing that they did indeed buy 1m ETH during the presale.
    • Currently Ethercoin (ETC) is trading at 3x the presale price in BTC which is about 1.6x the presale price in dollars.
  • You can now buy animal feces delivery with cryptos:

Kevin & Team Buttercoin
Bitcoin Trading Made Easy | 

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Sentiment Analysis


Hi Everyone,

This week markets jumped from $400/BTC to $450/BTC on the announcement that Paypal would be partnering with Bitpay, Coinbase, and GoCoin to allow its merchants to accept bitcoin:  Since then the price has tumbled to $370/BTC.  It further shows the ineffectiveness of fundamental news on price in an environment where short term buying and selling pressure dominate price discovery.

  • Swiss secret service to use bitcoin to pay informers:
  • Last week's rumor that BFL was shut down by regulators was substantiated this week:
  • Gavin Andresen begins work on invertible bloom lookup tables to make Bitcoin more scalable:
  • The supposed attack on the Monero network looks to be a hoax.  A good summary of events:
    • A reputable hacker and pool operator BCX claimed he had discovered a fatal flaw in Monero.
    • No one knows exactly what this flaw is or if it even exists.
    • BCX threatened to attack the network on 9/24.
    • No attack came but BCX now claims it will take a few days for the effects of the attack to manifest.
    • Some people think the original intended attack was related to a long-debunked attack vector (
      • At a high level, a person's public key gives you an equation involving the person's private key and a ring image also gives you an equation involving the person's private key.  But it is not the case that with these "multiple equations" you can solve for the private key.
    • Others suspect this is purposeful FUD by BCX to drive the price down and buy cheap coins.
  • Peercoin loses earlier gains as Nubits launches:
    • The article isn't exactly right in that Nubits has nothing to do with Peercoin (PPC) since it is an separate altcoin since there is some mechanism in the Nubits/NuShares system which pays dividends in PPC.
    • I've only skimmed the arduous whitepaper ( and it seems Nubits is trying to do something similar to BitsharesX's market-pegged assets but instead of using margin calls and market psychology to peg the price, it uses data feeds and centralized interest rate oracles.
    • I'm highly skeptical of all pegging schemes without ultimate redeemability for or delivery of the underlying asset.
    • On a side note, apparently BitsharesX is also using data feeds now to band the price of its bitAssets after their market peg broke down a few weeks ago:  Disregard the title of the linked thread.
  • IOCoin (not to be confused with I0Coin) switched to a new form of PoS where transaction fees are burned instead of given to stakers.
    • So while staking seigniorage provides inflationary pressure, burned transaction fees provide deflationary pressure set by the market (i.e. transaction volume on the network).
    • Even after reading their short, badly-written whitepaper (, I'm not sure what the point of this is.
  • Secret Goldman tapes surface:
It seems like the cryptospace generates copycats of the flavor-of-the-week at an alarming rate.  When anonymous coins started getting popular after Darkcoin's rise, every week saw a new coin based on a new anonymity mechanism, where each successive mechanism was more convoluted and more difficult to decipher than the last.  There was also the hype behind arbitrary asset issuance protocols like Nxt, Counterparty, followed by several others.  Now with Nubits, it seems pegged assets is the new hot thing.  I think, at this point, what's necessary are experts in mechanism design ( and implementation theory ( to come into the cryptospace and separate the plausible from the impossible.  I also feel that many altcoin whitepapers are needlessly long and painful to read.  That being said, I think anyone who has the patience to thoroughly sift through the noise will find many opportunities in the altcoin markets.

In an unrelated note, I recently read a paper on the correlation between bitcoin market activity and Twitter sentiment:

To summarize its findings:
  • The paper looked at the number of times positive emotive words (e.g. happy, great, awesome, etc.), negative emotive words (e.g. sad, bad, unhappy, etc.), and uncertain emotive words (e.g. hope, worry, fear) were mentioned in tweets alongside the word "bitcoin".
  • Correlation between negative tweets (but not positive tweets) and bitcoin price is found to be negative at the 1% statistically significant level.
    • This means negative sentiment is reflected in the market much more than positive sentiment (i.e. it could be that the baseline for tweeting is that most people say positive things about bitcoin most of the time)
  • Correlation between uncertain tweets and bitcoin price is found to be negative at the 1% statistically significant level.
    • This means that price goes down as uncertainty goes up.
  • Trading volume was correlated with positive tweets, negative tweets, the ratio of positive to negative tweets, uncertain tweets, and total emotive tweets at the 1% level.
    • This means that more twitter action goes together with more trading volume.
  • Wider spreads are correlated with negative sentiment.
  • Narrower spreads are correlated with the ratio of positive to negative sentiment.
  • It also found that sentiment (negative, uncertain, and positive to negative ratio) could lead price movements by up to 2 days but sentiment did not lead trading volume.
    • This suggests that directional sentiment lingers for a few days but excitement does not linger.  In other words, people who are right in their sentiment but slow pay off people who are right in their sentiment but fast.
  • Ultimately, the methodology could be better.  It would have been better to use price returns instead of price and de-trended tweet counts instead of tweet counts since the correlation of two non-stationary time series is less telling than the correlation between two stationary time series since correlation is a linear relationship.
  • Also they could improve upon their word choices for what represents positive or negative emotions.  They could also look for not just the word "bitcoin" but its many variants like "BTC" or "XBT".
    • If you want to get really fancy, you can build out a neural network of emotive words each with a weighting for "positiveness", "negativeness", and "uncertainness" off a list of seed words (e.g. happy = (1,0,0) (positive, negative, uncertain), sad = (0,1,0), unsure = (0,0,1)) and doing heavy machine learning as a first pass over Twitter.  Then in the second pass, apply the full neural network onto the word "bitcoin" plus variants.
I think there is a lot to explore on the topic of sentiment analysis in the bitcoin markets.

Kevin & Team Buttercoin
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Bitcoin Price Dips 17%


Hi Everyone,

This week markets tumbled from $480/BTC to $400/BTC, dipping as low as $380/BTC at one point.  Merchants and miners continue to exert downward pressure on the price.

Miners, in particular, create a positive feedback loop whereby the number of bitcoins that need to be sold to fund operations increases as the price drops since each bitcoin is worth less per unit.  Thus a miner who sells a large block creates a lower price on the market which, in turn, causes the next selling miner to have to sell even more bitcoin to receive an equal amount of cash.

As an aside, at this point mining is turning into a real arms race with some operations moving the Arctic, others moving to places with cheaper electricity, liquid immersion cooling, ever smaller chips, etc.  Seems very similar to the HFT arms race.  It seems that the "arms dealers" are the ones making the easiest money as miners compete themselves toward zero profits much like the HFT space.

I've heard a number of other theories as to why the price dipped this week: 1) the dollar strengthening (and thus bitcoin weakening relative to it) due to the Federal Open Market Committee (FOMC) announcing they would continue with QE tapering and 2) investors are cashing out of bitcoin to buy into the Alibaba IPO.  I don't buy either of these narratives.

On the first point, there was nothing unexpected about continuing with the QE taper so it should be already priced in.  In fact, the FOMC September meeting press release's overall sentiment was "dovish" in that " likely will be appropriate to maintain the current target range for the federal funds rate for a considerable time after the asset purchase program ends".  Also, and in general, fluctuations in the strength of the dollar are not large enough to account for BTCUSD dropping by 17%.  Bitcoin's price is dependent almost entirely on idiosyncratic bitcoin properties or events rather than broad macro properties or events.  The last macro event that arguably moved the bitcoin needle was the ECB taking deposit rates negative and even then the price jump was less than 3%.

On the second point, since it takes at least a day or two to move cash out of bitcoin and into your brokerage to buy Alibaba, the timing seems inconsistent.  Alibaba IPOed on Sept 19 and the majority of the bitcoin drop came on Sept 18 and 19.  It seems there wouldn't be enough time for the bitcoins sold to be converted into Alibaba stock.  If a large whale did indeed sell bitcoin in anticipation of buying Alibaba, we likely would have seen a sharp drop at least a number of days earlier and less of a drop closer to Sept 19.

  • Trendon Shavers (pirateat40) was fined $40m for operating the largest bitcoin ponzi scheme in the history of bitcoin (Bitcoin Savings & Trust) from November 2011 to August 2012:
    • $40m seems low.  From what I remember, he absconded with over 150,000 BTC which by today's prices is much more than $40m.
    • When he was running the ponzi, pirate offered 1% guaranteed daily returns, which is simply too good to be true.  Back in those days bitcoin was already appreciating at about 20% per month (though with high volatility), yet there were many people greedy for even more.  There were even pirate pass-through (PPT) funds where investors could pool their BTC together to meet the minimum investment for BS&T and to get the best rate from pirate after paying the pass-through operator a small cut.
    • Bitcointalk and #bitcoin-otc were rife with scams like BS&T. I was once offered 10% daily returns by a #bitcoin-otc regular.  Fortunately, those wild west days of bitcoin are past and the bitcoin world has come a long way in terms of professionalism since those times.
  • (Rumor) BFL raided by US Marshals:  So far the rumor is unsubstantiated.
  • Disacoin is an app being built that would allow you to share your internet access/bandwidth with people around you for micropayments in bitcoin:
    • Still in the very early stages but the concept is a good application of bitcoin for micropayments.
  • MIT students face subpoena over web browser bitcoin mining tool:
  • Apple will restrict NFC antenna and TouchID for Apply Pay only:
    • That's unfortunate since TouchID would have been a good anti-fraud and KYC tool to better allow consumers to buy bitcoin at brick and mortar shops.
  •  Square Register will integrate bitcoin:
  • (Rumor) A group of MIT students are working on bitcoin option pricing.
    • A few thoughts on that...
    • Black-Scholes seems particularly bad for bitcoin due to strongly leptokurtic returns.
    • In one of my earlier market updates, I suggested using the Levy alpha-stable distribution for modeling returns instead of the normal.
    • Dana Hobson from bitnet suggested to me some literature which found the truncated Levy distribution (TLD) to be an even better match to empirical data.
    • Since real world option pricing theory has come a long way from Black-Scholes, bitcoin can benefit from those advances without having to rediscover the wheel.
    • There's also something to be said for a veteran option trader's intuition which quantitative models may not be able to capture.
  • Peercoin jumped 40% on Nubits announcement:
    • What does Nubits do?  Supposedly something related to getting rid of market volatility.  No one really knows
    • It might also be related to Peershares which is something of a crypto-equity platform built on top of Peercoin that the Nubits team was working on prior to Nubits.
    • In any case, I'll believe it when I see it.  Pie-in-the-sky claims are plentiful in the cryptospace. 
  • (Rumor) Monero crashed 40% due to a supposedly fatal exploit in it's anonymity mechanism discovered by a reputable hacker:
    • BCX, a pool operator with a strong reputation in the cryptospace, claimed that Monero had an exploit which allows attackers to hijack addresses which cannot be fixed without compromising anonymity (Monero's killer feature).
    • BCX has a good track record for calling out exploits in a number of altcoins (most notably Auroracoin) and also attacking them with his mining pool.
    • Others suggest that this is all FUD by BCX for the purpose of crashing the price and buying Monero cheap.
    • Another forum member, TheFascistMind claims to also have found the exploit but claims, contrary to BCX, that it is fixable.
    • BCX announced in btc-e's trollbox that he will be attacking the Monero exploit on Sept 24.
    • If the exploit exists and it exists at the CryptoNote protocol level, it means the other CryptoNote coins like Boolberry, Ducknote, Bytecoin, etc. are also vulnerable.  Yet none of the other CryptoNote coins showed a significant dip in price.
    • If the exploit exists and it exists at the implementation layer of Monero, the market reaction makes more sense.
    • I'm interested in seeing what happens in the coming days.
  • GABI deploys first round of client capital:
    • Depending on their AUM and how much capital they intend to deploy into BTC (mandate is at least 75% of AUM in bitcoin at all times), this could be the counterbalancing buying pressure to merchant and miner selling pressure we have been looking for.

I'm still waiting for some MIT students to make a bitcoin micropayments platform for buying and selling class notes.

Kevin & Team Buttercoin
Bitcoin Trading Made Easy | 

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A Noteworthy Week for Bitcoin.


Hi Everyone,

This week bitcoin traded between $460/BTC and $490/BTC.  Volatility remains low for the third week in a row.

  • Satoshi's email account got hacked:
    • Some initially thought the email expired and the hacker just reregistered using that email but that doesn't seem to be the case.  It looks like Satoshi's email was actually hacked with all of his previous correspondences inside:
    • Everything else in the article isn't conclusive.  The BTCe account could be photoshopped, the receipt for the miners could be a red herring, the hacker's other claims could just be lies or trolling.
    • The hacker supposedly has Satoshi's identity and wants 25 BTC to release the info.  It seems to me that Satoshi is the sort of character who would write all his emails with the thought in mind that it could one day be public information.  I don't see him being careless enough to leave personally identifiable information lying around but who knows.
    • This event has led a number of trolls to pretend they are the hacker and extort the community for money to reveal Satoshi's identity.  Very opportunistic and very funny; trolls beget trolls.
  • IBM partners with Samsung to develop blockchain-like technology to debut at CES in January:
    • Rumors of it being a copy of Ethereum.
    • Will use Telehash for secure communication.
  • Braintree partners with Coinbase to bring bitcoin to its merchants:
    • Braintree's merchants include Uber and Airbnb.
  • Coinbase is also expanding to 13 European countries:
    • It's possible that this move was due to merchant growth slowing in the US.
    • Coinbase number of merchants over time according to bitcoinpulse: 
    • Another explanation for the chart is that Coinbase has just been going after the larger merchants who are less in number but do a large amount of volume.
    • The European market would open a new avenue avenue of growth for Coinbase and it looks like they are ready to challenge Bitpay and other bitcoin merchant services companies in Europe.
  • Dogecoin begins merged mining with litecoin:
    • Merged mining allows litecoin miners to confirm dogecoin transactions given their PoW meets the appropriate difficulty level.
    • In other words, the dogecoin network can now benefit from the hashing power (and thus security) of the more powerful litecoin network.
    • Since moving to merged mining, dogecoin price has gone up about 75%: 
  • OKPay was ordered by courts to hand over $6.1m to mtgox:
    • Originally, OKPay had intended to return the money to depositors and now this is no longer possible.
    • Given that most of these funds came in immediately preceding the fall of gox, this move by courts is effectively a transfer of wealth from gox's new creditors to gox's old creditors if the courts should decide to paid out all creditors in proration.
  • Bank of England publishes its second paper on bitcoin:  First paper from Q1:
  • Federal Reserve Bank of Boston publishes paper on bitcoin:
    • Observed that merchants give on average .86% discount on items bought with bitcoin.
    • Their sentiment is bearish on bitcoin as a payment system but bullish on the innovation spurred by bitcoin in the payments space.
  • I'm sure you have all heard the announcements for Apple Pay.  I see this as an indirect boon to bitcoin app developers as I'm sure many of them will leverage the TouchID (fingerprint identity verification) and NFC technology Apple is putting into place.
    • TouchID should decrease real fraud and subsequently friendly fraud as well.
    • This would benefit both traditional payments systems and bitcoin as well.
    • Apple will be earning .15% on each transaction.
    • 83% of US card issuers are on board.
    • 220,000 stores will support it at launch in October.  Compare this to 9 million stores where credit/debit cards work.
    • Best Buy and Walmart will not be using Apple Pay.
  • CFTC in approves first fully-regulated bitcoin swap:;
    • All contracts would be written, quoted, and settled in dollars based on a bitcoin price index developed by TeraExchange by aggregating prices from 6 different bitcoin exchanges.
Some quick thoughts on the altcoin space.  As more scrypt ASICS come out, we will likely see a mass exodus of GPU miners from litecoin and other scrypt coins to some other coin(s) in the same way that the GPUs migrated from bitcoin to litecoin.  This will likely cause both litecoin and the new GPU-heavy coins to increase in value as price has historically been correlated with difficulty for young, nascent cryptocoins.

But why is that the case?  The fact that a commodity all of a sudden becomes more difficult or more costly to produce should not mean that it becomes more valuable per unit since consumer demand for it has not changed and especially since the supply of it goes up in the process of it becoming more costly.  The labor theory of value explanation seems wrong.

Many argue that this is due to the increased security of the network (a higher hashing power implies a more costly 51% attack).  Perhaps demand for a bitcoin-like commodity is directly related to the costliness of a 51% attack on its network.

Possibly.  In the case of dogecoin, difficulty has gone up about 10x from the merged mining while price has gone up about 75%.

What's interesting to note is that, historically, as countries transitioned from older bills to newer bills, the value of that currency did not appreciate even though "security" against forgery improved through the addition of security features in the newer bills (waterprint, security strip, etc.).  Of course we can chalk this up to other factors having a dominating effect on currency value like general demand for the currency and central bank policy.

In any case, I would keep an eye on the Scrypt N-Factor coins and the X11/X13/X15 coins as GPUs migrate from Scrypt coins.

Kevin & Team Buttercoin
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Monero Fork; Boolberry; Altcoin Trading

Hi Everyone,

This week markets dipped from $505/BTC to $480/BTC before rebounding to $495/BTC and then back down to $480/BTC.  Trading volume has been average and volatility remains fairly low.

  • DigitalTangible, a services which allows you to buy gold with cash or BTC and trade it against BTC using virtual gold tokens, launches:
    • This version of virtual gold will actually work since the gold tokens are fully redeemable for cash or physical delivery.  Contrast this with bitGold from BitsharesX which has no redeemability and is thus unlikely to maintain a peg to actual gold.
    • Asset ownership is bound to a bitcoin address.  Claims on the asset can be traded on Counterparty, Poloniex, and Melotic.
    • The physical gold is held at depository institutions like International Depository Services of Delaware.
    • My initial impression of this system is a strongly favorable one.
  • Charlie Shrem reaches plea deal to forfeit $950k to the US government:
  • NYU and Duke begin offering courses on bitcoin and cryptocurrencies:
  • Ripple published a white paper on their consensus mechanism:
    • Although I've had my doubts about Ripple's consensus mechanism in the past, after carefully reading the paper, I'm becoming more convinced that it does and will work properly.
    • Remaining questions:
      • Given that Ripple is susceptible to a 21% attack, are the UNL lists sufficiently diverse such that more than 1/5th of the nodes colluding is unlikely?  The weak point here is the default UNL list, as brought to my attention by Vitalik.
      • Will connectivity in the network always remain high enough such that large, loosely connected cliques don't form.  If they do, forks will be possible.
    • In a somewhat unrelated thought, I think Ripple should implement the ability for user's to price debt from the various gateways they trust.  For example, to me, $1 Citibank USD is worth $.90 Bill and Ted's USD.  This way, Ripple's seek-least-price path-finding algorithm would work better by pricing in the user-perceived risk of default.  Compare this with their current system of gateways being either trusted or not trusted (i.e. 0 or 1).  Least-price path-finding will often also be highest-default-risk path-finding.
  • Nxt asset, Nxttycoin up 53% against BTC this week.  It is the official cryptocurrency of a mobile encrypted-messaging app:
    • I'm concerned that this is a pump and dump scheme since Nxttycoin does not actually represent equity in the company.
  • Viacoin up 70% largely due to their recent update:
    • Also due to Peter Todd's OP_CHECKLOCKTIMEVERIFY coming out soon which allows payments to be locked until a certain time before being spent.
    • Also interesting is that an Ethereum dev has been committing to CleariningHouse github:
The Monero (XMR) was forked this week in a complex, well-thought-out, well-planned attack.  You can read about it here:

Basically, for a few days the attackers sent out a lot of spam transactions into the network designed to look like mining pool payouts.  This was to increase the median block size without raising suspicion.  Once the median block size was large enough (which this attack requires), the attackers were able to start the attack.  The attack left half the network on one blockchain and the other half on another.  And due to how the Merkle tree code was flawed, the both halves of the network believed that they were all on the same blockchain.  In other words, there was a fork created without anyone knowing that there was a fork because it seemed like everyone was on the same ledger.  A two blocks later, the coins from the actual differences in the two ledgers are spent causing half the network to reject the transaction and half the network to accept.  Here the fork becomes visible.

Trading was immediately halted on most of the altcoin exchanges.  The Monero devs quickly fixed the issue and trading then resumed.  The price surprisingly did not suffer.  It seems the community consensus is that the devs handled the situation very well.

Interestingly enough, this attack does not seem to have been done for monetary gain nor to permanently cripple the XMR network.  The conflicting transactions which caused the fork were for negligible amounts of XMR (4 XMR total or about $8).  Also, since the attacker revealed the fork only two blocks later, the network was only forked for a very short amount of time.  Compare this to if the attacker forked the network but allowed the network to think it was on the same ledger for a long period of time before revealing the fork.

Besides Monero, another CryptoNote currency that's been gaining momentum is Boolberry (BBR).  Over the past week and a half, it's gone up over 500% in price.

It makes a number of improvements to the CryptoNote reference implementation.  From what I understand, it has the most changes of any CryptoNote currency from the reference code.  According to Peter Todd, this would be a good thing (; credit to Tim Swanson for sharing the link).

  • Wild Keccak over CryptoNight as the PoW hashing function:
  • Unlinkability improvement: .
  • Reduced blockchain bloat: .
Overall, the changes make sense and seem to be good improvements to CryptoNote.

Given the innovations in the altcoin space, I think now is a great time for altcoin speculation.  A year ago, the altcoin space was filled with various clones of bitcoin which just altered things like the block times and the coin supply (not real innovations) but now these new altcoins are making serious contentions to their utility and necessity through real innovation.  Most of the early altcoins have no good justification for their existence but many of these new ones make compelling cases.

With that, I also expect some of the older but smaller altcoins like Feathercoin, Megacoin, Quark, Novacoin, Ixcoin, IOcoin, HoboNickels to die off if they haven't already.  Megacoin's main innovation was the Kimoto Gravity Well which nearly all new altcoins have adopted rendering Megacoin nonunique.  Quark's main innovation of using multiple, chained hashing functions was adopted by a plethora of X11, X13, and X15 coins (e.g. Darkcoin, XCurrency, etc.).  Neither were able to generate enough user adoption as first movers to compensate themselves for the new features their successors developed (e.g. Quark's "X6" compared to Darkcoin's DarkSend/CoinJoin plus X11 ).

In the same vein, it is likely that new altcoins in the future will come to supplant the top coins today.  Already Halcyon (CoinShuffle) is steadily making it's way up to challenge Darkcoin (CoinJoin).

The altcoin space does about a quarter of the trading volume of bitcoin and this proportion is rising with each passing week.  At a time when bitcoin market activity is low, it may be the perfect time to play the growing altcoin market.

Kevin & Team Buttercoin
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Byzantine Cycle Mode

Hi Everyone,

This week markets have been mostly stable, trading between $485/BTC and $585/BTC.  Trading volume this week has been low.  This calmness in the markets is generally a positive sign.  If we assume miners and merchants sell off their coins at a fairly constant rate, low trading volume and a steady price would suggest that retail bitcoiners are mostly buying.  Compare this to an environment where there is high trading volume and a steady price.  In that environment, it is more likely that retail bitcoiners are more balanced in their buying and selling since the merchant/miner selling pressure is a smaller proportion of the total trading volume.

  • Bitshares X jumped 100% this week before crashing back down, net up about 20%:
    • Tim Swanson brought to my attention rumors of a potential collaboration between Bitshares and Ethereum a few weeks ago which may have triggered this price jump:
    • In the thread, Bitshares founder, Dan Larimer, seemed to suggest a formal partnership (including distribution of ETH to Bitshares PTS/AGS holders) with Ethereum was underway while the Vitalik and Ethereum team had other ideas (informal collaboration on technical challenges, no hard promises).
    • There's also some discussion in the thread about the merits of delegated proof-of-stake (DPoS) which is Bitshares' consensus algorithm. DPoS is one of the better versions of PoS (I prefer it to checkpointing and other schemes involving ) but there is still disagreement on whether PoS or PoW is superior.
    • My main issue with Bitshares X doesn't have to do with its consensus algorithm.  It has to do with its bitAssets concept and the idea of a market-pegged asset.  I'm unconvinced that it actually works.  I think redeemability is key for the pricing of a bitAsset to reflect its corresponding "real" asset.  There's also the problem of bitAsset's positions requiring 2x of the notional as collateral:  It's sort of a reverse 1 to 3 leverage which seems to defeat the point of having this sort of market.
  • OpenBazaar announces the use of reputation pledges, a reputation system based on proof-of-burn:
    • The idea is that customers will be more likely to trust vendors who have burned away some bitcoins since it makes the loss of that reputation costly (i.e. vendors are less likely to scam customers since it destroys their reputation for which they burned bitcoins.  Scammers would have to start a new account and burn an equivalent number of bitcoins as they did the first time for their first account to achieve the same reputation level.)
  • Dogeparty, the Counterparty analog for Dogecoin, started trading on Poloniex:  It's already dropped below the ongoing genesis burn/sale price:
Recently I've been looking into a variety of different anonymity mechanisms and meta-mechanisms and also atomic cross-chain trading (i.e.a P2P way of trading BTC for LTC without the use of a third-party and without requiring trust between the two first-party participants).
  • CoinSwap:
  • CoinShuffle:
  • Byzantine Cycle Mode:
  • Atomic Cross-chain Trading:
The motivation behind the anonymity work is that there are a few shortcomings of CoinJoin (master nodes know inputs and outputs; inputs to be mixed cannot be arbitrary amounts (e.g. can be 10 BTC or 100 BTC but not 8.2246 BTC or 293.463 BTC)) and these mechanisms seek to address them.

Regarding the Byzantine Cycle Mode (BCM) paper, BCM is a meta-mechanism since it does not describe in any way how the actual mixing is done.  BCM assumes that a mixing algorithm requiring equal inputs exists (e.g. CoinJoin) and outputs a method for mixing unequal inputs.  Essentially, it breaks down multi-party arbitrary-input mixing into isolated, smaller mix-cycles of equal-input mixing.  This is an important innovation because it allows all equal-input mixing algorithms/mechanisms to remain competitive with inherent nonequal-input mixing algorithms.  In other words, it makes the equal-input mixing property a non-issue since all equal-input mixers can be generalized using BCM into nonequal-input mixers.

At a very high level, this is how it works:
  • A number of players broadcast to the rest of the network that they are interested in mixing.
  • For each mix, an ordering for the players is established using predetermined rules (e.g. an ordering based on the hash of last block).
  • Each player generates random numbers and broadcasts them to each of the other players.
  • With these random numbers through Byzantine agreement, each honest player in the mixing pool comes to the same Bitcoin Flow Matrix which is a matrix representation of who will mix how much with who else. The main innovation in this paper is in defining that agreement protocol such that no one player has disproportionate influence, each player has some tangible influence, each player's desire to mix their specified amount of bitcoins is correctly represented in the final Bitcoin Flow Matrix and the calculations used to arrive at the Bitcoin Flow Matrix are deterministic so all honest players come to the same result.
  • The result is a consensus between the players on a number of mixing cycles with equal inputs.  For each cycle a player is a member of, he then reaches out to each of the other players in that cycle uses CoinJoin or some other equal-input mixing algorithm to do the actual mix.
For example, Alice, Bob, Carol, and Dan each want to mix 1, 2, 3, 4 BTC respectively.  BCM returns these cycles: Alice mixes 1 with Bob, Bob mixes 1 with Alice and 1 with Dan, Carol mixes 3 with Dan.  So the total mixing operation with inputs 1, 2, 3, and 4 gets broken down into 3 cycles of equal inputs:
  • A<=>B for 1
  • B<=>D for 1
  • C<=>D for 3
So everyone is happy.  Of course BCM could have returned different cycles.  For example:
  • A<=>D for 1
  • B<=>C for 1
  • B<=>D for 1
  • C<=>D for 2
The innovation of BCM is that all parties are able to agree through a deterministic computation, whether to go with the first case (3 cycles) or the second case (4 cycles) without anyone being able to cheat (strongly influence which case is reached).

The only minor issue I see is in the way player order is determined.  If player order was determined by previous block hash, a bad actor could enter the mixing pool when he was guaranteed to be Player 1 and then have some influence on the first mix cycle computed by the BCM (See paper).  If he had dirty coins he would be able to choose to which player his coins would be dumped.  Of course since players' identities are hidden, he would still need to associate a player number with an identity so maybe this isn't a real problem.  If this is a problem, player order can be determined, instead, by some event in the future from when the BCM is initiated such as next block hash.  In any case, this is either a minor issue or not an issue at all.

Overall, I think the BCM mechanism is robust and provides a good extension to equal-input mixing algos.

It seems like solutions to the anonymity question like the ones above are bound to improve over time.  The volume and depth of work being done on this front confirms my belief that many intelligent people think anonymous transactions are important to a well-functioning cryptocurrency.

Kevin & Team Buttercoin
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