Market on edge: MicroStrategy - a speculative bet on bitcoin or strategic genius?

MicroStrategy: A speculative bet on bitcoin or strategic genius?

Bitcoin is back in the spotlight, trading at all-time highs and reigniting global interest in the cryptocurrency market. Whenever Bitcoin dominates headlines, one name consistently comes up: MicroStrategy (MSTR). Once a software company specializing in business intelligence, MicroStrategy has reinvented itself by becoming a proxy for Bitcoin investment, loading its balance sheet with the cryptocurrency. The company’s strategy has positioned it as a favored vehicle for Bitcoin exposure, with its stock often outperforming the cryptocurrency itself during bull runs.

In this article, we analyze MicroStrategy’s Bitcoin-centric model, explore the forces driving its remarkable stock performance, and examine the risks that come with tying its fortunes so tightly to the volatile cryptocurrency.

But as Bitcoin soars, questions arise about the sustainability of MicroStrategy’s approach. Is the company using a calculated financial strategy to capitalize on Bitcoin’s success, or is it a speculative bet that could unravel in the face of a sharp market correction?

The Bitcoin strategy

MicroStrategy began its Bitcoin journey in 2020, citing concerns over inflation and the long-term devaluation of fiat currencies. The company shifted its treasury strategy, using cash, debt, and equity to accumulate Bitcoin. By Q3 2024, the company had amassed 331,200 BTC at a cost basis of $16.5 billion, with a market value of $31.2 billion.

While Bitcoin now dominates MicroStrategy’s identity, its original software business still operates. In Q3 2024, the analytics segment generated $116.1 million in revenue, though this marked a year-over-year decline of 10.3%. The enterprise software business, while still functional, has taken a back seat to Bitcoin in the eyes of investors.

The company’s strategy now almost entirely revolves around the aggressive accumulation of Bitcoin. Looking forward, MicroStrategy plans to raise an additional $42 billion over the next three years, split equally between equity and debt, to fund further Bitcoin purchases.

Is MicroStrategy borrowing "free money"?

One of the most provocative claims about MicroStrategy is that it borrows "free money" to buy Bitcoin. While this claim has some basis, it is an oversimplification. Here’s why:

1. Low-cost debt:
   MicroStrategy has raised billions through convertible notes with interest rates as low as 0%, which convert into MSTR stock under certain conditions. These rates are far below market averages, making the cost of borrowing negligible. Investors accept these terms because the notes offer upside potential through equity conversion.

2. Equity issuance:
   MicroStrategy also issues shares, particularly during periods of strong stock performance. While this capital is effectively "free" in terms of direct cost, it dilutes existing shareholders, transferring value to new investors.

3. Bitcoin appreciation:
   If Bitcoin appreciates faster than the interest cost of debt, the returns from Bitcoin can outweigh the financing costs, making the borrowing appear "free."

While these mechanisms provide cheap funding, they make the company extremely vulnerable to downturns in Bitcoin prices and its own stock price.

Why MSTR outperforms Bitcoin

MicroStrategy’s stock has outperformed Bitcoin significantly in 2024, rising 650% year-to-date, compared to Bitcoin’s 180% gain over the same period. This outsized performance can be attributed to two key factors:

1. Leveraged ETFs:
   In August 2024, the first leveraged single-stock ETFs tied to MSTR began trading. These funds, offering 2x leveraged exposure to MicroStrategy’s stock, have attracted significant inflows, creating additional demand for MSTR shares. As of November 2024, these ETFs collectively represent nearly 9% of MicroStrategy’s market cap.

   What is a leveraged single-stock ETF?
   A leveraged single-stock ETF is a financial product designed to provide amplified exposure to the performance of a single stock, like MicroStrategy (MSTR). For example, a 2x leveraged ETF aims to deliver twice the daily returns of the underlying stock, whether those returns are positive or negative. These products achieve this by using derivatives such as swaps or options to magnify exposure. While leveraged ETFs can enhance gains during an uptrend, they also amplify losses in a downtrend, making them highly speculative and risky investments.

2. Feedback loop:
   MicroStrategy’s strategy creates a circular dynamic:

   • The company issues equity or debt to buy Bitcoin.
   • Bitcoin purchases push BTC prices higher, boosting MicroStrategy’s stock.
   • Higher stock prices allow for further equity issuance, which funds more Bitcoin purchases.

This cycle has amplified MicroStrategy’s stock performance during Bitcoin bull runs but poses significant risks if Bitcoin’s price reverses.

Chart: MSTR vs. BTC—Who’s rising faster?

The following chart illustrates how MSTR’s stock has surged far more rapidly than Bitcoin over the last few months. While Bitcoin has posted substantial gains, MSTR’s rise is amplified by leveraged ETFs and speculative investor demand. This outsized growth highlights the risks of volatility should Bitcoin’s price falter.