Insights from a Crypto Miner
As crypto-miners, we’ve always been heavily engaged to provide the most profitable and long-term oriented crypto mining experience to our customers. With electricity being the biggest cost-factor, we’ve recently followed through on our decision to move our entire mining facility out of Switzerland to an iron smelting facility in up-state New York.
In context to the market dynamics of Crypto losing more than 35% over the last few weeks it’s shown us how right and important this decision was and it again shows us a clearer picture of what to expect in the next few months around the next “halving” event – we’ll get to that in a bit.
First, here are some important market dynamics that we’re seen in these recent times:
- Market prices of Bitcoin and other majors (BCH, ETH, LTC) have lost 30-40% over the recent weeks.
- Mining has continued to stay profitable for miners in the lowest-tier of power costs, even when BTC hit a price below $5000, as “production costs” (determined by how much power is being used to “generate” a Bitcoin, and how high the electricity bill is) must be far below the competition.
- The not-so-low-power-cost-tier miners obviously had run out of margins on their production costs, hence them needing to disconnect their miners, as their electricity costs were higher than the amount of BTC they were producing was worth on the various market places.
- These “disconnects” from such miners can be seen as the global hash-rate continues to drop, shown in the graphic below.
- With the hash-rate dropping, this will also result in an increase of coins being mined, as there are less machines out there to share the block-rewards with. We expect this to become visible in the weekly reward-payments over the next coming weeks (as the Bitcoin Difficulty Factor changes every 2 weeks based on the past average hash-rate).
- In total, the Bitcoin hash-rate has dropped from 132 Exa Hashes (1 EH = 1 Million Tera Hashes) to below 90 EH – a substantial drop that will benefit the miners that are currently still online, as show below:
Block-Reward Halving 2020
In approximately 55 days from now, the block-rewards will be cut by half from 12.5 BTC per block to 6.25 BTC per block. This is naturally occurring event that takes place every 4 years and will continue onward for another 100 years in to the future (until the year 2140 to be exact).
History has show us that the past two “halving events” (2012 and 2016) have bought price increases to the Bitcoin market as demand had stayed the same, while supply came down by exactly 50% from one block to the next. As a reminder: block-rewards are the way Bitcoins (and for many other coins the same applies) are distributed or “emitted” in to the market. Currently, with the block-reward still being set at 12.5 BTC per block, this means that 12.5 new Bitcoins are being emitted in to the market every 10 minutes (which goes to the miners).
Quick reminder: What is Proof-Of-Work?
When a person sends any amount of Bitcoin (or most other crypto-currencies) to another person, all the miners globally (currently roughly 1.5 Million individual mining-machines) receive that transaction request and try to validate two things: (1.) that the first person had that Bitcoin in the first place and (2.) that it’s now been successfully transmitted to the new owner.
In order for these million mining machines to agree on which transaction is valid, or which coins perhaps have already been transmitted in the past (preventing a so-called “double-spend” attack), these machines need to find what is called “Consensus”.
Proof-of-work is a “consensus mechanism”, which basically means that it’s an algorithm to make sure that all the machines have a common understanding on which of the machine can dictate which transactions are valid and put in to a “block” on the block-chain (a block is really nothing other than a list of validated transactions). The consensus mechanism essentially allows the machines to automatically find a “leader” for the time it takes to solve a block (block-time for Bitcoin is 10 Minutes on average). This cycle repeats itself after every block, indefinitely (yes, even after the last halving event in the year 2140).
Proof-of-Work can be described as “trying to find a complex and long number through random trial and error (“brute-force lottery”) on an hashing/encryption mechanism (SHA-256 for Bitcoin), while the first machine to find that number gains the authority to dictate which transactions are to be fit in to the next block”.
Hash-rate and block-reward
The global hash-rate is the amount of computational power currently engaged by all miners world-wide, looking to find that “random lucky number” to dictate how the next block will be composed and which transactions are to be included. The reward for solving such a block is linked to the block-reward. To stay with Bitcoin in this example, the Bitcoin Block-Chain Protocol emits new Bitcoins with every block solved, at a rate of every 10 minutes on average (this is how more Bitcoins are created and come in to existence). Every solved block emits the so called block-reward, which currently is set at 12.5 BTC and will be reduced to 6.25 around Summer 2020. This so-called “halving event” takes place every 4 years and will continue to the year 2140 – which is when all 21 Million Bitcoins will be mined.
Block-Time versus Difficulty and why it matters
In order to keep the block-time at an averaged 10-minute interval (the time between blocks being solved), there are two variables to consider: one being the overall computational power (global hash-rate) and the so-called difficulty.
Let’s look at the following example: if 1000 miners (machines) need 10 minutes to solve the computational task at hand to solve a block on average, surely 2000 miners will only require 5 minutes. While this is correct, it’s not what the Bitcoin Block-Chain Protocol has defined as optimal. To ensure that 2000 miners also require an average of 10 minutes to solve the next block, the computational task is artificially made more complex or difficult. This complexity is defined as “Difficulty”.
So when 1000 miners need 10 minutes, difficulty is set to “X” automatically through the Protocol. To ensure that 2000 miners also require 10 minutes to solve a block, the difficulty is set to “2X” and so on. What can be said is, that the more miners are trying to solve the next block, the higher the difficulty is to average out the block-times to the desired 10 minute interval. This also means that the more machines currently mining for the next block, the less every machine gets from the newly created block-reward.
Cost of Hashrate
Over the years newer and more efficient machines have been brought to market by major corporations such as Bitmain, Canaan or InnoSilicon. The important part about looking at new miners is not only the hash-rate they can deliver, but the amount of power they consume while crunching the numbers.
Because power-costs is by far the biggest cost driver for Proof-of-Work mining, having efficient machines make all the difference in profitability.
Today’s machines are 2.5x more efficient than machines about 1-2 years ago, meaning same hash-rate for 2.5x less power, or 2.5x more hash-rate for the same power consumption. At the same time, hash-rate has never been this cheap to purchase. While one Tera-Hash (one million-million hash computations per second) used to cost over $100 just 2 years ago, today, this price is down to less than $40 per TH/s.
Reward stability and putting it all together:
With the information provided above, we can put the following statements together:
- Global Hash-rate and difficulty correlate completely – the more miners are plugged in, the less coins are paid out every block to each individual miner.
- The block-time must remain at an average of 10 minutes.
- Every solved block “rewards” the lucky miner with the block-reward of 12.5 BTC (worth roughly $80’000.00 today) every 10 minutes.
- Power costs heavily cut in to profits and therefore dictate the “production costs” of a Bitcoin (measured in $/Kilo-Watts).
Combining all the market parameters, it’s clear that when the Bitcoin price soars to new market highs, the more miners are purchased and plugged in to get some of the block-reward and turn that in to profits – while raising difficulty, yielding less BTC paid out individually overall.
Though when the Bitcoin’s price drops, the miners with the highest power costs (globally averaged) will become unprofitable (consuming power at a higher $/KWh than the mined Bitcoin is actually worth on the market), and they will ultimately switch off their mining machines.
What this means for the other miners still connected, is that while BTC may be trading at a lower rate, the amount of BTC received every 10 minutes for their share of the block-reward is raised, almost completely compensating for the drop in price. Adding in the factor that hash-rate is cheaper than ever, the rise in difficulty is easily compensated as well.
With the upcoming halving event, while the block reward will drop by 50%, demand has no reason to diminish. The question is only how soon either the Bitcoin price will rise, or miners will have to disconnect. Either way, Bitcoin as a system will continue, and miners with competitively cheap-electricity will continue to flourish.
Source: Sean Prescott | LinkedIn