What Are Cryptocurrencies?

Starting with Bitcoin 13 years ago cryptocurrencies are virtual or digital money, not coins and not paper bills. They are created and maintained on decentralized networks using what is called blockchain technology. Blockchain is a distributed ledger on a network of computers. Up to this point cryptocurrencies are not issued by governments and are, in theory, immune from their manipulation or interference. When Bitcoin was “invented” 13 years ago one of them was worth pennies. Over the years they rose in value to dollars, tens of dollars, hundreds of dollars, thousands of dollars and now tens of thousands of dollars. Along the way the value of Bitcoin and other cryptocurrencies has fluctuated widely. That is where the issues lie when considering long term cryptocurrency investments. How much is enough to let you benefit significantly in case of further appreciation of this group of assets and how much puts you at risk of significant loss in your portfolio?

Cryptocurrency Investment Risk

When you own bitcoin what you have are a pair of codes that identify transactions. Lose those codes and you have lost your investment. You cannot call your broker and remedy the situation, nor can you get reimbursed by the FDIC like when your bank goes out of business. Unlike buying gold coins, you will not be able to store your Bitcoins in your bank safe deposit box. The system does work but you need to have a safe system to keeping track of your codes. Another risk with cryptocurrency is hacking. Billions of dollars in crypto value have been lost when crypto exchanges get hacked. According to CryptoSec there have been fifty-four documented hacking events with total losses of about $2.6 billion in value at the times of the hacks. In 2014 the Mt. Gox hack took more than $600 million. Considering that in 2014 Bitcoin traded between $350 and $700 that stolen crypto would have been worth $30 billion to $60 billion today. If you want to invest in crypto you need to deal with an exchange that protects you against such possible catastrophic losses. Alternatively, do not leave your crypto with an exchange. Leave your crypto info on a computer that is not connected to the internet. Only use two factor identification when dealing with your crypto.

Will Governmental Digital Currencies Hurt Crypto?

President Biden issued an executive order relating to the future of US money and payment systems. This includes the likelihood of an American digital currency that will take advantage of blockchain technology and provide many of the same advantages of cryptocurrencies. What governmental digital currencies will not provide is an investment opportunity such as seen with cryptos like Bitcoin. The worry in the crypto community is that a combination of governmental digital currencies and crypto taxes will cause a permanent damper on crypto appreciation.

How Much of Your Portfolio Can You Afford to Lose?

This is the question to ask yourself when you consider any speculative investment. Successful long term investors commonly analyze the intrinsic value when investing in stocks. Unfortunately, cryptocurrencies have no way to assess intrinsic value if they have any. Their value is what the market thinks they are worth. FOMO, fear of missing out, tends to drive prices higher when there is a rally. Fear of getting caught in a bear market typically causes a bear market like the price drop of nearly 50% in Bitcoin in the last few months. The consensus in the financial community is that there will be many uses for blockchain technology going forward. These uses do not necessarily include cryptocurrencies.  The fact that you see crypto promoters getting into things like NFTs and talking about using crypto for the Metaverse tells us that they are looking for ways to keep making money in the world of cryptocurrencies even if the bottom falls out. A common suggestion you see in articles about this subject is not to put more than 5% of your investment portfolio in cryptocurrencies.

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