Claire Brownwell reveals some tips and notes of caution if you want to join the digital currencies’ wild ride
Investors who bought cryptocurrencies early on faced plenty of doubters, but today they’re laughing all the way to the bank.
The price of bitcoin has had plenty of ups and downs during its turbulent history, but if you bought and held $1,000 worth of the currency five years ago and sold it on Monday, you would have about $374,000 today.
In July, Bloomberg reported that an unknown trader turned a US$55-million investment in ether, the digital currency powering the Ethereum blockchain, into US$283 million over the course of a month.
Over the past three months, the collective market capitalization of the 800-odd cryptocurrencies in existence has increased to US$146.5 billion on Sept. 11, from about US$25 billion on April 1.
Despite the huge increase in value, mainstream consumers have yet to take to these digital assets in significant numbers. To the average person, cryptocurrencies remain confusing and unfamiliar.
If you think that’s going to change and you see room for cryptocurrency valuations to climb even higher, here’s a guide to buying and trading bitcoin, ether and the hundreds of others in existence. Before you get too carried away, we have some notes of caution as well.
Bitcoin made it theoretically possible for two parties to exchange digital value without requiring a bank, government or third party. In practice, it’s not quite that simple.
For one thing, we all get paid in currencies issued by central banks, not bitcoin, which means investors need a way to convert their money into a cryptocurrency, which usually means buying it through an exchange.
Canadian investors have an additional challenge: It can be hard to find a cryptocurrency exchange that accepts loonies. Canada’s Quadriga lets investors buy bitcoin using Interac online, an electronic funds transfer or a bank wire, but
requires account and identity verification in some cases.
If, in the spirit of things, you’d rather keep your bank account out of the transaction, a bitcoin ATM might be the way to go. Available in cities across the country, bitcoin ATMs allow you to deposit cash in exchange for cryptocurrency, albeit for higher fees than an exchange would charge.
Once you’ve made the transaction, congratulations, you now own bitcoin, which you can prove is yours thanks to a shared digital ledger called the blockchain. The exchange or bitcoin ATM will have issued you a bitcoin address, which is like an email address people can use to send you money.
If you want to send money to other people, you need one more thing: a private key, similar to the password you would need to open up your email account.
Private keys are issued by pieces of software called bitcoin wallets and provide mathematical proof that transactions came from a wallet’s owner. Simply choose a bitcoin wallet provider and download its app on your smartphone.
The most common way to explain bitcoin wallets is to describe them as similar to bank accounts, but that’s misleading, said Anthony Di Iorio, chief executive and co-founder of Jaxx, a multicryptocurrency wallet.
Unlike a bank account — or a physical wallet — bitcoin wallets don’t “hold” your money. Your bitcoins are stored on the blockchain, with the bitcoin wallet simply facilitating transactions.
Some wallets manage your private key on their servers, while others give you the option of storing it yourself in a file, hardware wallet or paper wallet to keep your bitcoins safe if the wallet gets hacked.
“We’re a world wallet that doesn’t hold onto people’s money,” Di Iorio said. “You are personally responsible for securing your key.”
WHAT ABOUT OTHER CRYPTOCURRENCIES?
Bitcoin is the best-known cryptocurrency, but there are 800-plus
others out there.
Some were invented to solve problems with bitcoin, some provide a specific function such as giving a user access to cloud storage, and some act to certify equity ownership in a startup.
At US$27.9 billion, Ethereum has the second-largest market capitalization next to Bitcoin. It’s growing so quickly, however, that many cryptocurrency watchers are predicting Ethereum will one day dethrone Bitcoin in a reversal they refer to as the “flippening.”
Invented by a University of Waterloo dropout, Ethereum has a flexible programming model that allows developers to use its blockchain to make decentralized applications and self-executing “smart contracts.”
An alliance of major corporations and financial institutions is working together to study potential uses for Ethereum.
The third-largest cryptocurrency by market capitalization is Bitcoin Cash and it’s just a monthand-a-half old.
Bitcoin Cash is the result of a bitter, years-long dispute over how to handle the growing number of transactions as bitcoin becomes more popular.
Some people didn’t like the technical
fix implemented by bitcoin’s core developers, so they copied the cryptocurrency’s code, gave every owner of bitcoin an equal number of Bitcoin Cash tokens and launched a competing version using their preferred solution to the scaling problem.
Other popular cryptocurrencies include: Ripple, which provides the technological infrastructure for financial settlements; Litecoin, an alternative to Bitcoin launched with the intention of creating a “silver to Bitcoin’s gold;” and Dash, a cryptocurrency that focuses on providing quick and anonymous transactions.
BUYING OTHER CRYPTOCURRENCIES
Let’s say you think Ripple’s financial settlement infrastructure technology is about to take off, or you want to send and accept digital tips in Dogecoin. The Jaxx wallet lets you trade 15 different cryptocurrencies within the app, while wallets associated with cryptocurrency exchanges can hold and exchange a variety of tokens.
Di Iorio said the massive increase in cryptocurrency value in recent months has inspired a lot of new users to sign up for Jaxx, putting the company on track to pull in $1 billion in sales in this year. Jaxx now has about 500,000 users.
“It’s booming,” Di Iorio said. “It’s been crazy.”
If you want to invest in a brand new cryptocurrency, it’s possible to do so through an initial coin offering, or ICO.
For example, Waterloo, Ont.based messaging app Kik just launched an ICO with its cryptocurrency called Kin in the hopes it will increase in value as users earn it and trade it.
Sid Kalla, a researcher with Smith + Crown, a cryptofinance analyst, said it’s important to do your research before investing in any cryptocurrency, but ICOs require even more scrutiny.
Because valuations are so high right now, it’s become possible for untested entrepreneurs with halfbaked ideas to raise a lot of money
they don’t necessarily deserve.
“It’s hard to pick good winners, because the good projects have valuations that go up very high, which limits how much upside potential you could have,” Kalla said. “Like any bubble, you don’t know where the top is.”
Simply put, cryptocurrencies are not for you if you want a dependable, low-risk investment that allows you to sleep well at night.
For instance, over the course of a weekend from Sept. 7 to Sept. 11, Bitcoin lost eight per cent of its value following news that the Chinese government plans to shut down the country’s cryptocurrency exchanges.
The volatility of cryptocurrencies is “like penny stocks squared,” Kalla said.
“You have to ask yourself, what is the reason for investing? If the reason is, ‘I think Ethereum is going to go up in price 20 per cent by the end of this month,’ then I would say don’t buy it,” he said. “Even if you think this is going to be the next big thing, that doesn’t mean it’s going to be the next big thing next year.”
If you do manage to quadruple your money in a month, remember you owe the taxman his cut. The Canada Revenue Agency has made it clear it considers such profits to be capital gains, 50 per cent of which are taxable.
Jamie Golombek, managing director of tax and estate planning at Canadian Imperial Bank of Commerce, said the anonymous nature of cryptocurrency trading won’t help if the CRA starts asking questions about where you got the money for that fancy new car.
“If someone tries to convert a substantial amount of bitcoin into real currency — like Canadian dollars — presumably there will be a record of that and the CRA may ask where that money came from,” Golombek said. “Not reporting it is tax evasion and it’s illegal.”
You have to ask yourself, what is the reason for investing? ... Even if you think this is going to be the next big thing, that doesn’t mean it’s going to be the next big thing next year.
A bitcoin ATM stands at the Coin Trader retail store in Tokyo. Digital currencies may look more enticing after bitcoin soared in value.