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Investing in Bitcoins and Cryptocurrencies

We have recently had several queries from our clients about whether they should consider investing in Bitcoin, or cryptocurrencies.  The short answer is NO unless you can afford to lose all the money that you are investing.

Why do we say no (unless you can afford to lose all the money that you are investing)? 

Bitcoin and other cryptocurrencies are virtual payment networks built using blockchain technology.  These currencies are used for both illegal and legal business transactions, but also as an ‘investment’ (or speculation). A cryptocurrency is ‘a monetary system where encryption is used to secure transactions and in theory keep transactions anonymous.’

Speculative unregulated highly volatile investment

While there has been recent publicity about the fact that the price of bitcoin has increased in the last year, the price of cryptocurrencies are highly volatile – this information relates to the price of bitcoin.

From the launch of bitcoin, the value increase to $979 on November 25 2013, only to fall back to $214 on January 12th 2015.  The price has since increased to $4,257 on August 14th 2017.

Because a cryptocurrency is an artificial construct, not backed by any assets, the value will be dependent purely on supply and demand.  It is easy to launch a new cryptocurrency, which will change the demand for the existing currencies. It is generally believed that the bitcoin price is in a bubble at present. (A google search for bitcoin price bubble brings up 322,000 results)

These offerings are also unregulated.

But what are you actually investing in?

Unlike companies like Apple, Amazon, GE, Toyota, Nike, Bitcoin doesn’t actually produce anything, or have any revenues.  The golden rule to long term investing is that you ‘invest for the purposes of generating an income’. This is generally in the form of interest, dividends or rent and the capital gains on an invest reflect the calculation of those future income streams.

A cryptocurrency does not enable you to do this, so you are purely investing in a currency.  However, a currency of a sovereign nation actually has trade flows and a sovereign who is able to raise taxes to support the value of a currency.  A cryptocurrency does not, it has a distributed ledger (see information on blockchain).

Hacking and theft risks

Although cryptocurrency offerors take extensive steps to protect users, with cryptography and privacy technology, they can still be hacked and stolen.  See these three articles from this week:

Identity Thieves Hijack Cellphone Accounts to Go After Virtual Currency (New York Times 21/08/2017) 

A Very Dumb Mistake Costs Cryptocurrency Investors Big Time (Wired 21/08/2017)

Hacking Coinbase: The Great Bitcoin Bank Robbery (Fortune 22/08/2017)

SUMMARY

As The Economist points out (see link below), although these are highly speculative, the glut of offerings may ‘spawn promising companies and technologies’.  But from a financial planning perspective, you need to be prepared to lose all your money – so leave it to the venture capitalists at this stage.

For more information on initial coin offerings, (how they work, that they are speculative and unregulated) read this article from The Economist:

What are initial coin offerings?

WOULD you like to invest in Filecoin, a marketplace for digital storage services? Or Indorse, a professional social network where members own their data? How about Lust, a service “to enable all human beings on Earth to find their perfect sexual partner anonymously?” These are just three of a wave of what are called initial coin offerings (ICOs). More than $2bn has already been invested in such offerings since the first one, in 2013. And there is more to come: Smith + Crown, a consultancy, lists more than 200 ICOs on its website. What are they and why are they so successful?

 

By Carey Church



 

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