Bitcoin skyrocketed, but is it “digital gold” or “fool’s gold?”

Founded in 2009, Bitcoin is the largest (most recently valued at more than $ 900 billion, as well as Facebook’s market cap and more than 494 of the stocks that make up the S&P 500) and oldest cryptocurrency, a type of digital currency that an alternative to the US dollar and other traditional, government-issued fiat currencies.

Interest in cryptocurrencies and other speculative assets like “meme stocks” (think GameStop) and purpose-making companies (“SPACs”) exploded in the early days of the pandemic-induced economic downturn as people became bored and isolated but armed with them Stimulus checks and access to online communities for traders like Reddit’s WallStreetBets forum and “commission-free” trading platforms like Robinhood.

Throw in a little rebellious, “stick with The Man” ethos (think Tesla CEO and crypto cheerleader Elon Musk, who is ironically “The Man” and crypto prices are jumping / falling in the blink of an eye and an unhealthy dose of “fear of missing out” and the total market value of crypto rose from $ 237 billion at the start of the pandemic to $ 759 billion in late 2020 and a recent high of $ 2.58 trillion. Dollar.

Are cryptocurrencies “digital gold”, decentralized global currencies that are completely free of government oversight / control that will continue to grow as they displace government-issued currencies as a means of payment and a store of value? Or are they “fool’s gold” that crashes when the crowd moves on to the next shiny new object? I have no idea, but there are zealots on both sides who are a lot smarter than me.

What I’ve learned in 40 years of investing is 1) it’s hard enough to make money doing things you think you understand and 2) knowing what you don’t know is critically important; a concept Warren Buffett refers to when it comes to not venturing outside of his “circle of competence” (which he sees as the secret of his success).

Crypto is clearly outside of my admittedly limited sphere of competence, so that you can decide for yourself.

Look at George Washington on a dollar bill. You can use it to buy something (ie, it is a “medium of exchange”). You can deposit it with a bank and store it (i.e. it is a “store of value”). After all, it is a “unit of account” (ie how companies price their products, record income and expenses, and keep track of how much they owe / are owed).

Bitcoin traded at around $ 7,000 in early 2020, peaked at $ 64,289 in mid-April 2021, and plunged to $ 34,259 on May 23, a 47% decline in just over a month.

In my simple opinion, this type of extreme price volatility seems to disqualify Bitcoin (or any of the other cryptos) as a substitute for the dollar bill. No buyer / seller will use / accept Bitcoin if it can go up / down 30% tomorrow (as in the past). In addition, price volatility makes Bitcoin a poor store of value and a poor unit of account.

Bitcoin produces nothing and has no “intrinsic value” (like the US dollar). If you accept that Bitcoin (as opposed to the US dollar) does not fulfill the three functions of a currency (“medium of exchange”, “store of value” and “unit of account”), then it is only useful as a tool for speculators and cyber criminals.

In fact, the completely anonymous, undetectable nature of Bitcoin makes it a key component of ransomware attacks (a form of malware that encrypts the victim’s computer files and mistakes it for ransom), such as the recent attack that resulted in the Colonial Pipeline shutdown.

According to The Wall Street Journal, the FBI reported nearly 2,500 cases of ransomware in 2020 (an annual increase of 66%), with victims paying $ 350 million in cryptocurrency ransom to get their computer systems back to use. In fact, Colonial paid a $ 4.4 million ransom (in bitcoin) to DarkSide, the Russia-based ransomware collective that actually leases you the cyber tools to launch your own attack and the ransom for one Drive in reduction.

There is a big difference between trading / speculating and investing. Speculators crave the thrill of the “home run” by buying assets like Bitcoin that will never produce anything in the hopes that the pool of like-minded speculators, who also know Bitcoin will never produce anything, will expand and so will them allows to sell it at a price higher price.

In contrast, investors are content with staying in their “circle of competence” and playing the boring “long game” by trying to hit singles and doubles and having the “wonder of compound interest” put on the scoreboard.

Mickey Kim is the chief operating officer and chief compliance officer of Columbus-based investment advisor Kirr Marbach & Co. Kim also writes for the Indianapolis Business Journal. He can be reached at 812-376-9444 or mickey@kirrmar.com.

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