What is cryptocurrency?
Over a glass of wine, a friend recently asked me “…and, what is crypto? Am I missing out on something?” It was beyond me to explain it there and then – but I promised to try.
Investopedia describes cryptocurrency (or crypto) as a digital form of currency which is almost impossible to fake or double spend. It is a highly sophisticated product. In fact I struggle to understand crypto completely.
But you should know something about crytpo. It is a currency (sort of) which can’t be copied. It is decentralised – which means that no one government has control over how it is valued or produced. There is more than one cryptocurrency. Bitcoin is the most well-known but there are others like Etherium, Peercoin and Litecoin. Blockchain technology – the basis of crypto – is really interesting and will likely disrupt how the financial industry operates. For that reason alone, I think it is a really good idea to stay as informed as possible, even if you aren’t a techie.
Crypto is becoming more mainstream – for better or worse. You (yes you, on your computer or phone) can buy crypto currencies within minutes and retail investors are being sucked into speculation as a result. El Salvador has even adopted Bitcoin as legal tender – though critics say the move was simply a stunt to divert attention away from dodgy political moves by wannabe-dictator President Bukele.
#1 – Crypto is being used for criminal activities
Due to the anonymity and difficulty of tracing crypto, it is also no surprise that it is often used as a form of exchange in many cross boarder crimes. I’m not just talking petty drug deals – billions of dollars worth of crypto supports terrorism, money laundering and human trafficking. This begs the question, why retail investors are being encouraged to ‘invest’ in such products.
#2 – Crypto is not environmentally friendly
If sustainable investing is important to you – do not buy crypto. It now takes vast amounts of energy to create new Bitcoins. Some estimates show that crypto-mining consumes as much electricity each year as the Netherlands. Most ‘mining’ is done in China (about 70%) where electricity is cheap and mostly powered by coal-fired power stations.
#3 – Buying crypto is a gamble
There are two ways to make money with crypto. The first way is to ‘mine’ crypto – but please don’t ask me how to explain that. The second way is to make a profit on buying and selling it – that is to speculate on its value. There is no diversification opportunity to reduce your risk and the market is ridiculously volatile. Whilst the value is not controlled or influenced by any government – mad price fluctuations can be caused by public reactions to celebrity comments (Elon, I’m looking at you). So, speculators are basically taking a punt on where the price is going – a crypto-coin toss if you will.
The methods and algorithms behind cryptos are difficult to understand for the average person – and even for most sophisticated investors. I suspect that only a handful of people truly comprehend how crypto currencies work – and they are the creators. In 2008 we all felt the effects of wide-spread investments in poorly understood financial instruments – and this is no different. Whilst I believe blockchain technology will be a game changer in the future – I deeply distrust investing in ‘sophisticated’ products which I cannot understand.
#4 – You need the security of a bank
You are responsible for keeping your crypto safe. Whether that is by using a crypto-wallet, or by keeping the digital currency on an exchange, you have to take responsibility for keeping your investment safe. That means remembering very long passwords, and protecting yourself from online and real-life theft. Would you be comfortable keeping £50,000 cash in your home? On your computer? How safe are you from hacking? The risk of loss from your own screw-up is fairly high. So consider whether you are comfortable with that risk.
Crypto speculation is fast turning into a mania, similar to other financial bubbles and crashes. It has a long way to go before it becomes a reliable store of value or efficient mode of exchange. All cryptos are currently good contenders for my list of What Is Not an Investment.
If this is your first introduction to crypto – do not buy it. Resist the fear of missing out and just stay put. You would be better off taking your money, buying some nice clothes, going to the races, making some bets and drinking champagne. At least, you would have a nice outfit to show for it at the end of the day.
Want more articles like this? Sign up to my updates here and get my tips on changing your online spending habits (free)!