Updated: Nov 15, 2019
Confused by Bitcoin? Join the masses. Should you buy some now? Not so fast…..We here at Provident believe you should not invest your hard earned capital into anything you don’t fully understand. If you are like most people you are still a bit fuzzy on what the heck Bitcoin is all about. Let’s start with what Bitcoin is and what it’s not. Bitcoin is a worldwide cryptocurrency and digital payment system. It’s been called the world’s first decentralized digital currency. It was invented under an unknown group of people under the name Satoshi Nakamot – sounds Japanese to me. Bitcoin as released as open source software and operates in a “peer to peer” fashion with no intermediary. Bitcoins are created as a reward for a process known as mining. They can be exchanged for other currencies, products, and services. Note to any potential buyers, they want your US dollars to buy Bitcoin and no, they won’t accept your email emojis as payment.
As of February 2015, over 100,000 merchants and vendors accepted bitcoin as payment. Bitcoin can also be held as an investment. According to research by Cambridge University there are 2.9 to 5.8 million unique users using a cryptocurrency wallet, most of them using bitcoin. Bitcoins can be used to buy merchandise anonymously. In addition, international payments are easy and cheap because bitcoins are not tied to any country or subject to regulation. From a user perspective, Bitcoin is perhaps best described as “cash for the Internet”.
Now let’s get down to the nitty gritty, which is should you buy it. Said another way, should you speculate your hard-earned current capital for Bitcoin? Let me put something into perspective for you here. For you to be able to buy something there must be a seller on the other end. If you want to bet that Bitcoin is going to go up, then someone who sells it to you wants to bet that it is going down. This concept is known as speculating and can also be called gambling. Will Bitcoin become the next goldmine? No one really knows. Before you take a leap let’s look at some of the risks unique to Bitcoin.
Regulatory Risk: Bitcoins are a rival to government currency and may be used for black market transactions, money laundering, illegal activities or tax evasion. As a result, governments may seek to regulate, restrict or ban the use and sale of bitcoins, and some already have. Others are coming up with various rules.
Fraud Risk: While Bitcoin uses private key encryption to verify owners and register transactions, fraudsters and scammers may attempt to sell false bitcoins. For instance, in July 2013, the SEC brought legal action against an operator of a Bitcoin-related Ponzi scheme.
Market Risk: Like with any investment, Bitcoin values can fluctuate. Indeed, the value of the currency has seen wild swings in price over its short existence. Subject to high volume buying and selling on exchanges, it has a high sensitivity to “news." According to the CFPB, the price of bitcoins fell by 61% in a single day in 2013, while the one-day price drop in 2014 has been as big as 80%.
Security Risk: Bitcoin exchanges are entirely digital and, as with any virtual system, are at risk from hackers, malware and operational glitches. If a thief gains access to a Bitcoin owner's computer hard drive and steals his private encryption key, he could transfer the stolen Bitcoins to another account.
The concept of a virtual currency is still novel and, compared to traditional investments, Bitcoin doesn't have much of a long-term track record or history of credibility to back it. With their increasing use, bitcoins are becoming less experimental every day, of course; still, after years, they (like all digital currencies) remain in a development phase, still evolving. "It is pretty much the highest-risk, highest-return investment that you can possibly make,” said a well-known CEO of a national cybercurrency firm.
Should you invest your money in Bitcoin? I leave that up to you, but you will not see our firm speculating and gambling with our clients hard earned capital. Investors tend to ask all the wrong questions…. They always ask, “what’s working now”. I want you asking, “what always works”. What always works over time is disciplined diversification, asset allocation, re-balancing, dollar cost averaging, patience and faith in the future.
Win big – lose big strategies mostly end up losing big. My advice is that you don’t speculate with your hard-earned capital. Your American Dream is at stake and you can likely reach your goals with a more disciplined approach. Mark Twain said “there are two times in a man’s life when he should not speculate with his money. When he can afford to, and when he can’t”. You likely do not have enough money to fritter it away with what could end up being "magic beans", and even if you do you likely know there is no way to measure the risk and/or expected rate of return. Be smart with your money, that's away's a cool thing to do.