Hi readers and followers! I continue my cryptocurrency series and this one is dedicated to “How to Invest in Cryptocurrency and Join the Blockchain Craze”
A single Bitcoin in 2010 cost less than one cent. Now, one Bitcoin is valued at about $3,500.
You probably already know about Bitcoin, and that massive jump in value is likely why.
Forex Triple B
But what about Ethereum which has nearly $30 billion worth of coins in circulation? Or emerging coins like Ripple or Litecoin? Joke currencies like Dogecoin or FedoraCoin? The deeper you dig into the blossoming world of cryptocurrencies the weirder it seems to get.
Don’t let the memes fool you, though. Cryptocurrencies are establishing themselves as the real deal. Their use values are appearing and their massive levels of inflation have already made some people a lot of money!
Given the seeming technological complexities of cryptocurrency, many young people are the forming the public body of participants who are bringing these new currencies into the mainstream. As the New York Times put it:
“GRANDPA HAD A PENSION. THIS GENERATION HAS CRYPTOCURRENCY.”
In this article, the third of our Process Street Future Finance series after Micro-Investing and Equity Crowdfunding, we’ll look at 3 key areas to equip you with the knowledge to jump on the cryptocurrency bandwagon before it’s too late:
What is cryptocurrency and how does it work?
What currencies are available and how do they differ?
What are the steps to getting started with cryptocurrencies?
What is cryptocurrency and how does it work?
The libertarian ethic and the spirit of cryptocurrency
Let’s first off start by saying that cryptocurrencies aren’t actually brand new anymore. Bitcoin was the first decentralized cryptocurrency in 2009. That’s already nearly a decade old and the technology and theories regarding cryptocurrency predate that even further.
The first descriptions of what we now consider cryptocurrency were published in 1998 by Wei Dai in his article b-money. The first paragraph of this article sheds light on how the public perception of cryptocurrencies has come to be viewed as a community of what the New York Time refers to as:
“…TECHNOLOGICALLY SOPHISTICATED ANARCHISTS AND LIBERTARIANS EXCITED ABOUT A DECENTRALIZED FINANCIAL NETWORK NOT UNDER GOVERNMENT CONTROL…”
Dai’s first paragraph reads:
“I AM FASCINATED BY TIM MAY’S CRYPTO-ANARCHY. UNLIKE THE COMMUNITIES TRADITIONALLY ASSOCIATED WITH THE WORD “ANARCHY”, IN A CRYPTO-ANARCHY THE GOVERNMENT IS NOT TEMPORARILY DESTROYED BUT PERMANENTLY FORBIDDEN AND PERMANENTLY UNNECESSARY. IT’S A COMMUNITY WHERE THE THREAT OF VIOLENCE IS IMPOTENT BECAUSE VIOLENCE IS IMPOSSIBLE, AND VIOLENCE IS IMPOSSIBLE BECAUSE ITS PARTICIPANTS CANNOT BE LINKED TO THEIR TRUE NAMES OR PHYSICAL LOCATIONS.”
What we see from the beginning is a radical technology. One which is theorized as a tool to allow for the systematic overhaul of society. The challenge written into the heart of the technology is that of the destruction of the state’s monopoly on violence; a conceptual framework founded in the work of Bodin and Hobbes with hundreds of years of scholarship and debate built on top of it.
The German sociologist Max Weber, when defining the modern nation state, relies upon this monopoly as his core thesis. In Politics as a Vocation (1919), he writes:
“[THE STATE IS THE] …ONLY HUMAN GEMEINSCHAFT [COMMUNITY] WHICH LAYS CLAIM TO THE MONOPOLY ON THE LEGITIMATED USE OF PHYSICAL FORCE. HOWEVER, THIS MONOPOLY IS LIMITED TO A CERTAIN GEOGRAPHICAL AREA, AND IN FACT THIS LIMITATION TO A PARTICULAR AREA IS ONE OF THE THINGS THAT DEFINES A STATE.”
All of this is a long winded way to make use of my philosophy degree say that cryptocurrency’s revolutionary beginnings demonstrate their disruptive and transformative potential, whether or not you agree or consider the initial political aspirations. Even if cryptocurrencies do not revolutionize society’s relationship with the nation state, they look increasingly likely to revolutionize elements of financial markets, at the very least.
The first currencies and how they were constructed
One of the first incarnations of cryptocurrency was BitGold, created by Nick Szabo. This was a kind of precursor to Bitcoin and you can find Szabo’s writings about that in in his blog post Unenumerated – written at the time, in 2008. More recently, Szabo was featured on Tim Ferriss’ podcast about cryptocurrency, where he delves further into the future potential of cryptocurrencies.
Bitcoin was the first real cryptocurrency which took off. Bitcoin works on the basis of a few fundamental building blocks. Before looking into other cryptocurrencies and how they differ slightly in their approach, let’s cover the basics.
Bitcoin is based on a system of peer to peer transactions secured by cryptography. Think of the films you definitely don’t torrent, and that gives you a rough conceptual framework. It’s architect was Satoshi Nakamoto, who is an interesting figure in his own right with one Australian entrepreneur Craig Wright claiming that he is the real Nakamoto – though, that appears to be unlikely. Not that any of this matters to the Bitcoin community. As Bitcoin entrepreneur Andreas Antonopoulos phrased it:
IDENTITY AND AUTHORITY ARE DISTRACTIONS FROM A SYSTEM OF MATHEMATICAL PROOF THAT DOES NOT REQUIRE TRUST. THIS IS NOT A TELENOVELA. BITCOIN IS A NEUTRAL FRAMEWORK OF TRUST THAT CAN BRING FINANCIAL EMPOWERMENT TO BILLIONS OF PEOPLE. IT WORKS BECAUSE IT DOESN’T DEPEND ON ANY AUTHORITY. NOT EVEN SATOSHI’S
Bitcoin relies on people mining the coins. Basically, the computing power of your PC is put to work solving complex problems. In return for solving these problems, you receive/create new Bitcoins. There is a cap on the number of Bitcoins which can come into existence set at 21 million and a schedule for determining their release up until 2040. Given the increased interest in mining Bitcoins along with the cap and scheduling factors, it has become more difficult over time to generate revenues from mining – particularly for the casual participant.
Due to the increasing popularity of Bitcoin and its shift into the mainstream, many people who wish to enter into the market use Bitcoin exchanges. This works much like any other currency exchange and allows you to invest into Bitcoin in a similar sense to treating a currency as a commodity.
Bitcoins are stored in your electronic wallet. The advantage of this wallet compared to the one you keep in your pocket is not just that it is a secure storage space, but also because each coin in your wallet is identified as belonging to you within the decentralized Bitcoin ecosystem. Though, Bitcoins have been stolen from wallets in the past, the incentive to do so is low given how difficult they would be to spend as they’re identified against their legal owner.
This whole security element described above is premised on something called the blockchain. While Bitcoin is a very private and anonymous currency, it is also inherently transparent. This transparency is facilitated by the blockchain which is a constantly updated public record of all transactions. If you imagine each of these transactions as a statement, “I, Adam_1, pay you, Reader_1, 2 Bitcoins for your positive comment”, then that statement is saved as a transaction on the blockchain. I can’t pretend I didn’t say it. The transparency of the statements – or contracts – keep it secure. Moreover, how embedded that statement is within the other statements around it makes it increasingly secure as the blockchain grows.
The purpose of Bitcoin in this sense, is that you don’t need to trust a bank or some other third party – what Szabo calls a “wet space” – to verify interactions. The whole process is done natively within the computer code using the decentralized network to provide the checks and balances.
One of the next spaces cryptocurrencies are heading into is the legal zone – an extension of the statement in each transaction to being a more complex contract. Contracts built into the currency itself. But we’ll come to this as we look at the different currencies we have available to us.
What currencies are available and how do they differ?
Bitcoin
If you knew anything about cryptocurrencies before you clicked on this article then you were probably already familiar with Bitcoin. The O.G. of the cryptocurrency world, Bitcoin has made a lot of money for a lot of people. The success of Bitcoin is arguably the driver behind every other cryptocurrency.
If you want an idea of how much money some people have made with Bitcoin, check out this calculator which lets you enter an initial investment amount and a date to calculate what the current value of that investment would be now.
One Bitcoin success story is Erik Finman, an 18 year old from Idaho, who invested $1,000 into Bitcoin in May 2011 when he was just 12 years old. He made a bet with his parents that he would become a millionaire before he was 18 so they wouldn’t make him go to college. You guessed it, he now owns $1.09m in Bitcoin. It’s a nice soft news story which has closed segments on tv and earned Erik an AMA on Reddit.
Leaving aside the fact that at 18 the decision of whether to go to college or not would have been Erik’s anyway, the massive riches he earned through Bitcoin were seemingly not down to clever trading. In fact, according to the calculator of ours mentioned previously, $1000 invested in May 2011 would generate a profit of $1,119,965. That’s over 100k more than Erik has.
I don’t mean to talk Erik down. He’s a young lad and he has much more money than I do. Plus, he’s expanded his experience to tech startups and a whole range of really exciting little projects including sending a time capsule into space. You go, Finman!
That said, if you’re looking to make long term money on Bitcoin then it’s not clear whether playing the field will earn you any more money than simply buying low and selling in the far future. Though, at least it keeps you in the loop in regards to your investments…
There are risks and worries to be had with any cryptocurrency and many of them can be seen or understood through Bitcoin. Which brings us on to security and related concerns.
One of the effective elements of Bitcoin in providing security is that the blockchain, or the ledger, can’t be reworked or rewritten retroactively because of the decentralized nature of the technology. Nick Szabo describes the risk factor which has been called by some the 51% rule. This is the idea that if 51% of all the computers running “nodes” – recording the blockchain – were to collude or be owned by the same person, then they could begin to wreak havoc with occurring transactions. They still wouldn’t be able to play with old information, but they could do damage in the present.
Why someone would want to do that is a whole other question. To do so would likely destroy Bitcoin as a currency, and to be in the position to do that probably means you’ve got a hell of a lot to lose. So I wouldn’t worry too much about it right now.
Where problems have occurred is within the exchanges. Some purists aren’t fans of exchanges to begin with, as they see certain platforms attempting to operate as banks within this libertarian ideal where the banks have been figuratively burned. Misgivings have been heightened come each scandal. The most notorious might be the Mt.Gox fiasco where half a billion dollars worth of Bitcoin went missing.
Mt.Gox filed for bankruptcy in 2014 after losing $450m in Bitcoin and a further $27m in cash. The company started as a space for trading playing cards; its name deriving from Magic The Gathering Online eXchange. With the rise in Bitcoins the focus shifted from the DnD-esque game to trading in currency. The details of how all these Bitcoins went missing are sketchy, but it is understood that near to $300m are still missing.
Ultimately, cryptocurrencies are not a very tightly regulated industry and an increasingly large presence of third party exchanges which aren’t held to high levels of security could always hold the potential for risk. It’s worth bearing in mind.