If up to now you haven’t already bought Bitcoin, you may be wondering to yourself “should I invest in Bitcoin”. The cryptocurrency has made unprecedented returns since its inception, peaking at just under $20,000 in December 2017. After a major fall in prices through 2018, it has since rebounded and currently sits just over the $9,000 mark.
What is Bitcoin?
Bitcoin was created in 2008 by a person or persons using the pseudonym Satoshi Nakamoto and was released in 2009 as open-source software. It is a decentralised digital currency which means that funds can be sent from person to person on the peer-to-peer network without using an intermediary like in a traditional money transfer business.
When you want to send money, your transaction is broadcast to the network and is processed by nodes which use extremely secure cryptography to record your transaction to a distributed ledger known as a blockchain. The process of sending and recording a block of transactions by the nodes is called mining. Miners are rewarded for for this service by being awarded Bitcoins for each block they mine and add to the blockchain. The current mining reward is 6.25 BTC per block.
What are the potential benefits when I invest in Bitcoin?
With a return of 8,990,000% from it’s birth to it’s peak in 2017 which dwarfs any other asset class, the case to invest in Bitcoin is clear. However, now that Bitcoin has reached a moderate level of global awareness it is no longer in it’s early stages and so the upside remaining is unlikely to be on the same scale although could still be very significant.
The above chart shows the long-term monthly performance of Bitcoin since 2012. You can clearly see over this timescale that the long-term trend is up. There is also a pattern that occurs 3 times where there is a strong upward trend followed by a sideways period of price consolidation. It is also noticeable that this pattern is less strong over time which is consistent with growth in user adoption.
Bitcoin is currently in a long-term sideways period of consolidation. The yellow trendlines show that overall price-action is consolidating in a trading pattern known as a symmetrical triangle. This is a neutral pattern which means that price could break up or down from here. However, the price is consolidating close to the top trend line which often indicates that it is more likely to break upwards.
Store of value
In the past few years Bitcoin has begun to be accepted as a store of value similar to Gold. Although this is true for early adopters it is not the case for those who bought near the top at $20K. I think if Bitcoin breaks $20K again then the store of value case will be more convincing although it obviously can’t compare with Gold’s thousands of years of history in that respect.
Global reserve currency
There are some in the community who see it becoming a global reserve currency. At the moment although there is global awareness the levels of adoption are still tiny. If an easier and more compliant way was found for pension funds to invest in Bitcoin then the price could rise dramatically off this huge demand. Additionally, if central banks bought Bitcoin in a move to a reserve currency then then upside could be massive.
Be your own Bank
I personally think a greater benefit that is rarely talked about is the power of the decentralised nature of Bitcoin. This gives you complete control and freedom over your own money so that you can’t be censored in any way. Due to the ongoing war on cash and KYC legislation there are now restrictions in many countries on your degree of access to your own money.
For example, in the U.K it’s quite common that when you withdraw even a few thousand pounds that you will be asked what you are doing with it. Also, when you send significant sums overseas you can be questioned or have your funds blocked. With Bitcoin none of this is possible. You have complete sovereignty over your funds and can send them to anyone in the world at any time, cheaply, quickly and without censorship. Effectively you are your own bank.
What are the potential downsides when I invest in Bitcoin?
With all investments there is an element of risk and Bitcoin is no exception. You have to remember above all else that it is a highly speculative asset. Bitcoin does not provide any income, it does not belong to anyone and is not backed by any assets. You are purely investing the notional value of the network’s technology and its future potential.
Since the hard fork in 2017 when it split into 2 chains: Bitcoin (BTC) and Bitcoin cash (BCH), the original chain (BTC) has transitioned into more of a store of value asset rather than a peer-to-peer electronic cash network as described in the original white paper. Many of the larger companies who accepted Bitcoin in it’s earlier days have stopped using it and even though there was massive crypto boom in 2017, today there are very few places that accept it. It’s possible that it’s use as ‘digital cash’ may never really come back or be fully adopted.
Although Bitcoin was the first cryptocurrency, there have subsequently been thousands of other ones created. It’s possible that it could be superseded by a more technologically powerful digital currency or one that is marketed in such a way to succeed. If that was the case it’s usefulness and value could plummet. Ethereum for example, which is the 2nd largest cryptocurrency and has a strong following, operates more as a ‘base layer’ enabling multiple applications to be built on of it.
ETF or no ETF?
A significant portion of BTC’s price move in recent years has been based on the possibility of a Bitcoin ETF being approved by the SEC. If this happened it would mean there would be a much easier path for pension funds and private investors to invest in Bitcoin. It has however, been denied several times already with no clear outlook going forward. If an ETF remains off the table this may affect further adoption and thus price rises.
There is a risk incurred when you hold or use Bitcoin. You are exposed to the possibility of exchange risk when you keep your Bitcoin on a cryptocurrency exchange. This could be either due the exchange pursuing an exit-scam and disappearing with your funds or the exchange being hacked. The largest hack in crypto history happened to Japanese exchange Coincheck in 2018 resulting in approximately $532 million in losses.
Many of the crypto exchanges are unregulated which means you have minimal or no protection in the event your funds are lost. This is gradually changing and many of the older and more established exchanges in the U.S like Coinbase offer decent protection. As well as others stealing your money you also need to make sure you don’t loose it yourself. Transferring cryptocurrency is not the same as sending money and can be quite a complicated process for newcomers.
If you are reasonably technical you should be able to manage but there is a learning curve involved. However, even tech giants such as John Mcaffee have lost cryptocurrency due to mistakenly sending it to the wrong address. Due to Bitcoin’s decentralised design if anything goes wrong there is no comeback and no one to call as the system runs autonomously.
Whilst volatility can be a good thing because it enables traders and investors to make money on the upside the opposite is true to the downside. Bitcoin is undoubtedly the most volatile asset out there and experiences regular wild price swings even on a daily basis. The price has varied by upto 40% in a single day and experienced drops of over 90% during it’s bear markets.
It’s got it’s haters
Perhaps the greatest investor of all time Warren Buffett is an outspoken critic of Bitcoin. Buffett has said that he sees Bitcoin as a purely speculative asset with no inherent value. He adds that it does not hold or produce anything of value in the traditional sense, and therefore does not provide an income on investment in the same way as a dividend. Highly regarded Economist Nouriel Roubini has a similar opinion and says that ‘Fin-tech not Blockchain’ is the innovation.
How can I invest in Bitcoin?
The best and safest way to invest in Bitcoin is on a regulated cryptocurrency exchange like Coinbase. When you buy from an exchange you are buying the real asset. There are fx trading platforms which allow people to buy and sell Bitcoin but these use derivatives and hence you do not own the Bitcoin itself but purely trade it.
Once you have your Bitcoin you can either trade it on an exchange or send it to your wallet for storage. There are many other cryptocurrency exchanges available all over the world. One of the most popular which I also use is Bitmex. You cannot buy Bitcoin here. It is a futures exchange where you can trade on the future price of Bitcoin and other cryptocurrencies.
Bitmex is extremely popular because it has one of the highest levels of trading volume and liquidity in the world. This makes it very easy to get in and out of positions quickly when you are trading. It also offers leverage which means that you can trade larger positions with a small balance. Bitmex is different to other exchanges in that you only trade in Bitcoin value, not in other currencies. Therefore you only gain or loose BTC.
How do I securely store my Bitcoin?
When you buy Bitcoin on an exchange you can store it on an exchange, but this is insecure due to possible hacks and exchange risk. The way that Bitcoin works is that each Bitcoin (or part of) has a location address which is stored on the blockchain. When you send your coins they are simply transferred from one address to another and updated on the blockchain.
The cryptographic address for your coins is known as your ‘private key’ which allows you access to your coins. When your coins are stored on an exchange, the exchange holds your private key not you, which therefore makes it less secure.
The solution is to hold your private keys and thus your Bitcoin in a wallet. There are 2 types of wallet: software or hardware. Software wallets are less secure because they are online and vulnerable to hacks, and also because they are managed by third parties. Hardware wallets are the most secure because your private keys are stored offline in a hardware device and only connect online when you are sending or receiving funds.
There are several manufacturers of hardware wallets. I personally use and recommend the Ledger Nano. This is an easy to use, compact hardware wallet that enables you to securely store your Bitcoin plus multiple other cryptocurrencies on a single wallet.
How can I manage my risk if I decide to invest in Bitcoin?
As we know that Bitcoin is a highly volatile asset then from a diversification perspective we should only allocate a small portion of our portfolio to it to manage risk. Typically a 1-5% allocation would be appropriate but every individual has their own level of risk tolerance. Some investors recommend 10% allocation which may be acceptable if you only have a small amount of funds but on a larger portfolio would incur increased risk. I know of people who hold 100% crypto, but as the price has already grown exponentially to where it sits today, this is an extremely risky strategy.
You could also adopt a dollar-cost-averaging strategy where you make regular, smaller additions to your portfolio on a weekly or monthly basis. This helps mitigate your risk should the market fall as you will have less capital invested overall compared to investing all at once. You will benefit from being able to buy more Bitcoin at a lower price which will enhance your profits when the market recovers.
- Bitcoin is a unique decentralised cryptographic technology.
- It has potential for substantial capital growth due to its acceptance as a store of value like Gold and the possibility that it could be adopted as a reserve currency.
- It is a highly volatile asset with associated risk. There is a chance that the technology could be superseded or that adoption may not continue due to regulatory or other reasons.
- There are risks to holding or using Bitcoin that could incur losses.