Investing in Bitcoin: A New Frontier?
On a fateful afternoon in May of 2010, a computer programmer in New York exchanged 10,000 bitcoins for two pies of pizza. At the time, the idea of bitcoin was still hidden in relative obscurity outside of a small circle of enthusiasts, and very few people were paying attention. After all, each bitcoin was valued at only a couple of cents, and it apparently took 5,000 of them to buy a single pizza. Today, if the pizza chef has held on to his bitcoin collection, he is sitting on a fortune valued at $1.2 million dollars!
This begs the question: what exactly are bitcoins, and why should they be on the radar of any serious investor?
Bitcoin, the world’s first major digital currency, has garnered unprecedented attention from the mainstream media and Wall Street alike in recent weeks and months. Essentially, bitcoins are electronic coins that allow individuals to complete transactions which entirely bypass the need to involve financial institutions. Instead of a regulatory authority or a central bank, bitcoin users place their trust in advanced computer cryptology and a pre-set open source algorithm.
To be sure, the bitcoin network does provide clear economic advantages over more conventional forms of electronic payment. For example, bitcoins payments are irreversible, alleviating the need for trust between seller and buyer. Joining the network is free, available everywhere in the world, and not subject to limits or account suspensions. Rather than losing 3-5% of every transaction to credit card companies, small business owners can find solace in the nearly feeless world of bitcoin exchanges.
Bitpay, a service which facilitates bitcoin transactions for small businesses, has already surpassed a client base of 10,000 merchants. Expensify, which manages expense reports of over 200,000 small businesses, has recently announced that it will accept bitcoins to lower the fees on its international transactions. Approximately 50,000 transactions are completed via bitcoin every single day—ascending rapidly from 1,000 in the beginning of 2011—as can be confirmed by the public bitcoin blocks, and its use has become increasingly ubiquitous.
One thing is clear: investing in bitcoin has never been so popular, and it has never been as financially lucrative. If you were one of the lucky bitcoin investors who bought into bitcoin just one year ago, you would have earned returns of 60X your investment. For the last month or so, bitcoin has rested at comfortably at approximately $120, whereas just a year ago it was trading at barely a couple of dollars.
How has bitcoin risen so quickly?
Many financial analysts are juxtaposing the rise in the value of bitcoin with the corresponding distrust in the traditional banking system. The introduction of bitcoin in the aftermath of the financial collapse in 2008 was a perfect time for an alternative currency to take off. With the trust in the large banks at an all-time low, it appears that many people have come to see bitcoin as inherently more fair to the average individual. This has become most apparent with the recent soaring of value in bitcoin paralleling the financial meltdown in Cyprus.
The only question is whether bitcoin will continue to rise in value, or whether it is simply a bubble waiting to burst. Just last month in April, bitcoin was briefly trading at a high of $240, before it came spiraling down to its current price of $120. In truth, nobody can really be certain whether the current value of bitcoin is any steadier than it was a month ago. While bitcoin investments could be fun, extremely lucrative, and have shown the potential to pay exponential dividends, one should be cautious with the amount of their income they inject into such a volatile market.