One of the hottest things in finance today are cryotocurrencies. Cryptocurrencies are a digital, decentralized currency that it not tied to any specific country or anything. Satoshi Nakamoto, the creator of Bitcoin, wanted to create a digital cash system that was independent of different countries and the like. A cryptocurrency, like Bitcoin, works in the digital world in the sense that a network is created among people (now it is a lot of people) who say that this particular currency is worth a particular amount of money. In fact that is how any currency works. It has to be agreed upon by people to accept it (e.g. how the world accepts a paper currency like the American dollar is worth a specific amount of money).
Well, cryptocurrencies like Bitcoin have become extremely popular because there is little interference from governments and it is difficult to manipulate. It uses cryptography to convert information into an almost uncrackable code that can track purchases and transfers. These encryption methods also help to control the creation of monetary units. When you use a cryptocurrency, like Bitcoin, you use it on a network that verifies a transaction and it becomes public record that way no bitcoin could ever be used twice by the same person.
There are specific ways to obtain cryptocurrencies. You can go to this article and check it out. Who knows in the future your salary may come in the form of some digital currency.
Should You Invest in Cryptocurrencies like Bitcoin?
The reason I write this article is because I have had a couple of folks reach out to me thinking about investing in Bitcoin. Bitcoin is the first cryptocurrency and I think the most popular. And over time its value has skyrocketed. Bitcoin has gone from being worth a few pennies, if you translated it into regular currency, to currently being worth over $10,000. So if you have 100 bitcoins you are a millionaire.
And the fact that more people are investing in them, speculating about their value, and using them is driving the prices higher and higher. Some people are speculating that Bitcoin could go up to $40,000 by the end of 2018.
For those people who want to invest in digital currencies, have at it. Be my guest. However, I am not going to touch Bitcoin with a ten foot pole.
It is just too risky. It is just volatile. I wrote on my Facebook page that I think of Bitcoin as the equivalent of Tulip mania during the Dutch Golden Era.
During the Dutch Golden Era of the late 16th/early 17th centuries the tulip was introduced to European flower markets. The tulip was a unique flower that was grown in earnest in the Netherlands. As time went along, a market was created for the tulip bulbs created by the Dutch. In the early 1630s, flower growers were increasingly paying greater prices for the tulips. Then speculators entered the market, which drove up the prices even higher.
People started trading in different contracts for tulips. Sometimes those contracts would change hands a few times a day, each time the price would grow higher for the tulip bulbs and at times the people who held the final contracts would actually never receive the contract. In other words, it was basically a scam. People were trading things that had no real value, it wasn’t backed by anything. The value created was on the basis of speculation.
In some respects, I think of Bitcoin being the same way. The value of Bitcoin continues to rise, but its rise is based upon speculation. Bitcoin investing has become the Wild, Wild West. There is nothing backing it except speculation. And the value of Bitcoin will go up and down like a roller coaster.
At least when you invest in a mutual fund you are investing in the value of companies that produce things. Bitcoin doesn’t produce anything.
So I would caution anyone from buying Bitcoin because of the fluctuation in price.
If you do decide to buy it make sure it is money that you could potentially afford to lose or it is small portion of your portfolio. It is really volatile and it may go up for a while, but it will definitely come down. And when it does I think it will crash hard.
If you do buy it I would invest a small amount, but also have a specific target to get out. Let’s say if it goes up by 20% then you get out. Take your money and run. The longer you wait with it the more dangerous it becomes.
The Bottom Line: Cryptocurrencies might be the wave of the future in the currency we use to exchange goods and services. The fact that it takes specific cryptographic keys to unlock its value and produce more bitcoins is a huge advantage over other currencies that can be manipulated. However, as an investment vehicle speculation is what is driving the value of Bitcoin and other cryptocurrencies. It is not driven by any specific rationale. I don’t want to invest in something that is pure speculation. I want to invest in something that has some backing (e.g. company stock or the bonds of a government, etc). If you do invest please make it a SMALL portion of your portfolio and set a target for you to get out. Maybe that target is 10% gain or 20% or whatever. Don’t be greedy.
I am not going to touch cryptocurrencies with a ten foot pole unless they replace national currencies as mediums of exchange. Until that day comes I will stick to good old fashioned mutual funds. I may not get rich quick, but I will sleep better at night.