Even if you pay only scant attention to the financial media, you’ve probably heard a lot lately about the newest investment craze: bitcoin. The meteoric rise of the cryptocurrency over the last year has the talking heads on the financial channels falling all over themselves trying to get you to watch their latest analysis. In fact, as I am writing this, I learned that it’s “Bitcoin Week” on CNBC. One of their headline shows will take a deep daily dive into the phenomenon that is bitcoin.
Bitcoin started the year at a price of less than $1,000. As of this writing, it is trading at more than $17,000! That’s a gain of 1,600% for the year! The volatility of the trading in bitcoin is also startling. Just five days ago, it was around $11,000, and later in the week touched a new high of $19,000. One day last week, it rallied to more than $16,800 after starting the day around $14,000. The price (notice I didn’t say value) has routinely been fluctuating $800–$1,000 hourly.
So, what exactly is bitcoin? It’s the first, and most popular, amongst a number of similar “cryptocurrencies.” In very basic terms, it is a digital currency. It is created and held electronically in a digital wallet. It can be used to buy goods and services electronically, much like shopping online. The main difference between bitcoin and the currencies we are used to (dollars, yen, euros, etc.) is that bitcoin is decentralized, meaning it is not controlled by a single institution or government. That means that there is no central bank controlling bitcoin the way that governments now control their respective currencies. That lack of regulation can be looked at as a benefit, or a potential problem.
It is a technology that I believe will eventually change the way our monetary system works. But I don’t think we’re there yet—or even very close. Most people still haven’t heard of it, despite the wall-to-wall media coverage. Few businesses are accepting it as payment, and very few people own any. In fact, one of the problems is the “Bitcoin Whale,” the moniker given to the small group of people controlling a large amount of the currency. It is estimated that fewer than 1,000 people (in the world) control up to 40% of the available bitcoin.
Right now, bitcoin seems to be more of a speculative investment vehicle. That could change, but for now there are “analysts” who believe it is a farce and will ultimately fall apart, losing all of its value. In fact, a Duke law professor just penned an opinion piece for The Wall Street Journal, “Hooray for Bitcoin (but Don’t Buy It),” taking the position that, for several reasons, the price will go to zero. And there are others who believe it will ultimately become worth $1 million per bitcoin, including McAfee Software founder John McAfee, who made a rather interesting bet that it would hit $500,000 within three years. You’ll have to look that one up yourself!
All the speculation and attention have led to a lot of people allowing the emotion of greed to take over their investment decision-making process. One of the first rules of investing is that you should never invest in something that you don’t understand. There was an article in The Wall Street Journal last week that discussed how most people who are jumping on the bandwagon and buying bitcoin don’t even understand the basics of what it is. They are simply afraid of missing out on “the next big thing.” It reminds me of the dot-com bubble in the late 1990s and the real estate bubble of 2005–2007. Both of those bubbles eventually burst and caused a lot of pain for a lot of people. Maybe that will happen with bitcoin. Maybe not.
For now, trading in bitcoin is not investing—it is speculating. There is nothing wrong with a little speculation now and then as long as you understand the risks you are taking and you can afford to lose the money you’ve “invested.” But for me, I’d rather go to Las Vegas for any speculation I care to indulge in. At least in Vegas, we can get free drinks.
P.S. As I was getting ready to post this article, there was a report out that Jay Clayton, Chairman of the Securities and Exchange Commission, Wall Street’s top regulator, raised alarms about bitcoin trading and its unregulated nature. He warned that the cryptocurrency market is “burning with risk for retail investors.”