If you've been reading the financial media, you've probably heard a lot about the rise of cryptocurrencies.
Should you invest? Are they just a new fad?
Here's what you need to know.
A cryptocurrency is digital money, created by encoding strings of data (crypto) into units of currency. Unlike regular money, cryptocurrencies aren't issued by a government and have no physical form.
If you're having trouble imagining what a virtual currency is, imagine that each currency is like a casino in which you can exchange dollars for chips. Except that the casino isn't a physical place and you can't always cash out when you want to. You also don't know who is behind the casino or any of the people in it with you.
A lot of factors are playing into the craze. Greed, glamour, love of technology, and a desire to take control and creation of currency away from governments.
Like gold, digital currencies seem to have grown in popularity amidst post-election uncertainty - particularly among Millennials - when many have lost trust in markets and institutions.
Probably not. Cryptocurrencies are not a good investment for most people.
Hackers steal $530 million in NEM cryptocurrency from Coinbase client accounts.2
Regulators shut down suspected Bitconnect Ponzi worth $2.6 billion in market value.3
$460 million in Bitcoin tokens vanishes from Mt. Gox exchange.4
Besides the usual issues with fad investments, the cryptocurrency market is ripe for scammers because it is largely unregulated. Unsurprisingly, that means scams abound. Since cryptocurrencies aren't centralized, they aren't protected by the FDIC or any other regulatory body. In the current wild west atmosphere, anyone can launch a new cryptocurrency and lure in investors desperate to jump into the fad. Cryptocurrencies are highly speculative and investors can lose their entire investment.
The bigger deal about virtual currencies is the technology behind them: the blockchain. Networks like the stock market, banking network, and shipping services rely on centralized account-keeping to track transactions like buys, sells, and transfers.
In contrast, virtual currencies rely on a peer network to confirm and record a digital record of all transactions. Each transaction, called a block, is time stamped and permanently linked to previous blocks in a public record called the blockchain.
More than any individual virtual currency, it's this ability to use a decentralized network to reliably conduct transactions - without the authority of a central entity like a government or financial authority - that may change the way many industries do business. However, the blockchain is a new and unproven technology that may fall short of this potential, making it a risky (and potentially fraudulent) proposition.
The blockchain may be able to make accounting transactions faster and more secure than ever, while offering banking services to those who lack access to traditional banking.
Smart contracts could allow end-to-end product tracking and accountability.
Keeping patient information both safe and accessible may be made much easier with blockchain-based medical records.
The blockchain could offer a verifiable way to authenticate voters, record ballots, and count votes, eliminating fraud and creating an audit trail.
Smart contracts may be able to eliminate the costly record-keeping, reconciliation, and lack of transparency that makes real estate transactions expensive and time consuming.
Should you stay informed about cryptocurrencies? Definitely. I'll keep you informed as investment ideas that align with your long-term goals cross my desk.
Feeling excited and worried about missing out? Don't take out that second mortgage. Give my office a call and we can talk about ways to integrate cutting edge technology into your current financial strategies.
Thanks for reading,
Steven Chau, CFP®
Know Your Worth Financial