Do you want to invest in Bitcoin or other virtual currencies? Think about it and try to understand it before you dive in. There are many problems with investing in cryptocurrency, of which we will dive into the five major problems here.
Virtual currency is seen as the future of monetary money by many. Instead of having the issues of exchange rate fees and transaction fees, this will all be taken away by having one coin over the entire world.
Plus countries with unstable currencies would love to have a virtual currency that is more reliable and more stable than the currency of their home country.
Bitcoin is the perfect example of this new virtual currency. Bitcoin is the largest cryptocurrency by market cap on the block (see what I did there).
Blockchain is a digital, distributed, and decentralized network that supports almost all cryptocurrencies. Because of this, blockchain can process a transaction without financial institutions being involved.
The rise of Bitcoin and the introduction of blockchain into our everyday world could be revolutionary.
Blockchain is believed to be a game-changer for the financial services industry. But is it really?
In 2018 we saw the value of Bitcoin decrease by more than 80% in one month, which made me wonder: is cryptocurrency actually an investment, or is it speculation?
To answer that, we need to get into the problems that cryptocurrency faces.
Cryptocurrency Problems: Avoid Or Invest?
Cryptocurrencies have been amazing for our technology and the safety of transactions. With the December 2017 media attention and the January 2018 crash, everyone has probably heard of Bitcoin.
Why is not everyone invested? And why are we not paying with Bitcoin on a regular basis?
1. Cryptocurrencies Are Not Tied To Fundamentals
When you’re investing in an asset, you want to know the underlying fundamentals. Only then you can know what the value of the asset is.
When you’re investing in stocks, you want to check balance sheets, earnings, management reporting, and more. You are buying a part of the company, which means that as the company grows the value of your share will grow.
With cryptocurrencies, none of these fundamentals are available.
While it’s hard to compare stocks with cryptocurrencies, there has to be some underlying value of the asset you’re investing in.
This is the issue with cryptocurrencies: they have no fundamentals and thus no real value.
You buy a coin and you hope that more people want to buy the coin later, which means that you can get more currency back for it later.
Warren Buffett has a very clear opinion on cryptocurrency. He says: “Cryptocurrencies basically have no value, they don’t produce anything. You can’t do anything with it except sell it to somebody else, but then that person’s got the problem.”
Just be aware of the fact that cryptocurrency is viewed by many as pure speculation.
2. Cryptocurrencies Are Very Volatile
The majority of cryptocurrency investing happens on decentralized exchanges, without any big investors like pension funds. This fact, plus the relatively small market cap of cryptocurrencies, makes for incredible volatility.
Cryptocurrency can go up and down double digits every day. Every. Single. Day.
You have to be ready for that emotionally, otherwise, it will be one big rollercoaster.
Here you see a graph of the average annualized volatility. You can easily see that cryptocurrencies are much more volatile compared to the S&P 500, gold, or other global equities.
The cause of this volatility could be the lack of fundamental value of the coin, as discussed in point 1.
Most people trade based on news, which makes it very hard to suppress the FOMO (fear of missing out).
It is very common to have +10% days and -10% days with cryptocurrency. While this is uncommon for stocks, it is not impossible.
Be prepared for any volatility when you decide to invest in cryptocurrencies.
3. Cryptocurrencies Are Still Unregulated
While people want to adopt cryptocurrencies in their daily life, very few businesses actually accept it as payment. There are regulations in place that prevents this is some countries, while other countries are okay with it.
Since cryptocurrencies are so unregulated, there is nothing the authorities can do if fraud occurs. There have been people that have invested in certain coins that turned out to be fraud.
The issue is that it is very hard to find out where your money went and who currently has it. Investing in cryptocurrencies is very anonymous, perhaps too anonymous.
4. Cryptocurrencies Are Too Anonymous
When you’re investing in cryptocurrencies, there is the importance of you being anonymous.
There is a record of any transaction, that’s what the blockchain is made from. If you have someone’s public key, you can see on the blockchain how much currency they got.
Normally, people are being highly anonymous and you don’t know who is behind the public key. That means you don’t know where the money is coming from or where the money is going.
This is a big problem with cryptocurrencies while it is also a very important feature.
Cryptocurrency trading can be used for criminal activities, tax evasion, and money laundering.
Yes, they could do the same with cash, but this is making it a little bit too easy for them.
This is one major drawback of the system that needs to be resolved before everyone will jump on the Bitcoin train.
5. Cryptocurrencies Are Not Environmentally Sustainable
The mining of cryptocurrencies means that many people at the same time are trying to make a block of the most recent transactions. The person who does that the fastest makes the block and gets the reward, coins (for example Bitcoin).
This mining takes a lot of energy because they need the fastest computers for this.
Currently, the estimations are that ONLY the Bitcoin network uses more than 69 TWh per year. That is more than the yearly power consumption of Colombia, a country with 50 million people.
We’re only talking Bitcoin here, not about the more than 1600 altcoins.
The miners compete for limited coins, which means that they’re competing against each other and increasing the power usage constantly.
At the moment, China is leading Bitcoin mining. In China, the main source of energy is coal. We know that this is a very environmentally unfriendly way of producing energy.
Even if the mining would use all clean energy, this carries opportunity costs. The fact that we’ll be using clean energy for Bitcoin mining, means that we can’t use it for greener purposes.
Does it make sense to consume so much energy for one single currency? In my opinion, there are enough concerns around the environment at this moment. We don’t need another one.
All In All – Problems Of Investing In Cryptocurrency
Personally, the technology behind cryptocurrencies interests me and I think they could have a great impact on our world a couple of years from now.
It is hard to see cryptocurrencies as an investment since they are not tied to fundamentals and have no real underlying value. There is no company that is sharing its profits or annual numbers, based on which you can make your investment decisions.
Besides that, cryptocurrencies are very volatile and could go up or down more than 10% in a single day. Be aware of that!
Cryptocurrencies are highly unregulated and are too anonymous. This brings not only risk for fraud, but also the risk of criminal activities and money laundering.
Importantly, cryptocurrencies are terrible for the environment. There are too many people who want to earn the coins by mining, meaning that they need to have the fastest computer. Only for Bitcoin, the yearly energy consumption is the same as a country of 50 million people.
I have invested, or speculated, with cryptocurrencies in the past. I have learned a lot from my investing in cryptocurrencies and I see my investments as lost money. For now, I will hold and pretend the money is gone.
It is just fun money, nothing serious.
What do you think about cryptocurrencies?
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Founder of Spark Nomad, Radical FIRE, Journalist
- Expertise: Personal finance and travel content
- Education: Bachelor of Economics at Radboud University, Master in Finance at Radboud University, Minor in Economics at Chapman University.
- Over 200 articles, essays, and short stories published across the web.
Experience: Marjolein Dilven is a journalist and founder of Spark Nomad, a travel platform, and Radical FIRE, a personal finance platform. Marjolein has a finance and economics background with a master’s in Finance. She has quit her job to travel the world, documenting her travels on Spark Nomad to help people plan their travels. Marjolein Dilven has written for publications like MSN, Associated Press, CNBC, Town News syndicate, and more.