More Than a Bit of Risk in Bitcoin

December 13, 2017

Up to now, we’ve been reluctant to comment publically about so-called crypto-currencies, however, there has been so much media coverage on the exponentially-rising prices of these over the past few weeks that the need to weigh in is now acute.  We’ve also witnessed a flurry of cryptocurrency-related events over the past weeks, including; 1) many questions on this topic posed by the advisor-audience recently at an investment conference we attended, 2) online advertisements for Bitcoin investing courses, Bitcoin IRA’s and even former pole-dancers now promoting themselves as “Bitcoin experts”, (we’re not kidding!), 3) inquiries from people who had little idea of how cryptocurrencies work, 4)  “Bitcoin futures” began trading on the Chicago Board of Exchange this past Monday, and finally, 5) recent Securities and Exchange Commission (SEC) warnings on the extreme risks in crypto-currencies.  So we’d like to make some observations, even if this article prevents just one reader from making a huge financial mistake.

The concepts of digital currencies, block-chain databases, & protocol development are extremely complex and for those who aren’t computer professionals, the explanations can be head-spinning.   The most simplistic example of how Bitcoin may work in cyberspace is that of a county fair, where an attendee exchanges fiat currency (dollars) for tokens (Bitcoin) that can be used to purchase goods and services with the financial ecosystem of the fair (the cyberspace of protocols and “smart-contract” platforms).  The tokens are not (generally) useable or exchangeable outside this specific environment, but only within this cyber-system are they deemed useful and a unit of value. 

For most now, the appeal of Bitcoin does not seem to be its utility as a general currency (which, by its current volatility, lack of regulation and lack of economic sponsorship, makes it impractical), but by its ‘trade-ability’ as some type of asset-class.  Apart from a relatively few entities that accept Bitcoin as a unit of value in the fiat world, its chief appeal is, for now, something that can be bought using fiat currency and sold at a future date for a (hopefully) higher price back into real-world currency, which can be then spent normally.  (After taxes are paid on any gains, of course).

As fervent proponents exclaim, Bitcoin may have the potential one day to become more than just a tradeable item.  For now, we can’t help thinking about similar investment reasoning made by the dot.com enthusiasts and day-traders of the late 1990’s or the real estate flippers of the mid 2000’s. Today’s justification sounds all-too similar to the past kind of mania that ensnared the unknowing and unwary, most who were looking for supposed quick and easy profits.  The technology may indeed one day be practical, useful and a part of our society, just as the Internet and smartphones have become over time.  For now, however, I caution against getting swept up in the fervor.  Just like early dot.com companies such as AOL, Yahoo and others in the 1990’s, this sector of technology is still quite young and developing.  You’d be wise to hold onto your cash until the eventual maturation and shake-out occurs.  Would-be buyers beware.