– With dig­i­tal cur­rency prov­ing to be the new­est fad, it is time to an­a­lyse prac­ti­cal­ity of the changed sce­nario

With dig­i­tal cur­rency prov­ing to be the new­est fad in the fi­nan­cial world, it is time to an­a­lyse the prac­ti­cal­ity of the changed sce­nario and its feasabil­ity go­ing for­ward

MillionaireAsia India - - Contents - By Ra­j­mo­han Kr­ish­nan

Over the last year, there has been a frenzy around the prospect of in­vest­ing into cryp­tocur­ren­cies and dig­i­tal in­vest­ments. Peo­ple have been mort­gag­ing their homes to buy Bit­coins- a se­ries of ones and ze­roes, which clearly have no phys­i­cal pres­ence. The year 2017 saw the Bit­coin soar from $1000 to $19000 at the close of the year. It is not just Bit­coins but also other dig­i­tal cur­ren­cies and dig­i­tal as­sets that have been the fo­cal point of dis­cus­sions glob­ally.

On the one hand, while an in­creas­ing num­ber of on­line re­tail­ers are ac­cept­ing dig­i­tal cur­ren­cies, many gov­ern­ments have main­tained dif­fer­ing po­si­tions on the sub­ject. While gov­ern­ments such as Saudi Ara­bia adopt a lais­sez faire ap­proach to Bit­coins, other coun­tries such as South Korea and China are ban­ning the cryp­tocur­rency, terming it an il­le­gal ten­der. In the light of cur­rent cryp­tocur­rency sit­u­a­tion, it is worth­while to pause and pon­der on the me­chan­ics of in­vest­ing into these in­stru­ments ex­plor­ing if it does re­ally make for a wise in­vest­ment.

Dig­i­tal cur­ren­cies or vir­tual cur­ren­cies, are un­reg­u­lated and of­ten se­cured by cryp­tog­ra­phy and tak­ing the form of store of value and used as a means of pay­ing for goods and ser­vices. Some of the com­monly known vir­tual cur­ren­cies, Bit­coin, Ether and Rip­ple are is­sued and con­trolled by their devel­op­ers. Con­trary to com­mon be­lief, not all vir­tual cur­ren­cies are cryp­tocur­ren­cies since not all use cryp­tog­ra­phy.

Dig­i­tal cur­rency users work on a peer to peer net­work to ex­e­cute di­rect trans­ac­tions; each trans­ac­tion typ­i­cally doc­u­mented in a blockchain for that vir­tual cur­rency. The blockchain op­er­ates as a data­base of all trans­ac­tions en­tered in by all users. The use of vir­tual cur­ren­cies does not re­quire user iden­tity au­then­ti­ca­tion, and hence all trans­ac­tions en­tered in a blockchain are anony­mous.

There is im­mense ease of trans­act­ing in these cur­ren­cies, as these are freely trade­able on­line or over vir­tual cur­rency ex­changes, and ded­i­cated self-ser­vice kiosks in ex­change of reg­u­lated cur­ren­cies such as the dol­lar or in of an­other vir­tual cur­rency, let’s say - bit­coins in Ex­change for Ether.

So, are in­vest­ments in vir­tual cur­ren­cies the bus you’d want to ride on, keep­ing in mind the noise around them? To start with, it would be good to ex­plore the ben­e­fits of in­vest­ing into dig­i­tal as­sets.

Phe­nom­e­nal Re­turns

Dig­i­tal cur­ren­cies are ap­pre­ci­at­ing at a stu­pen­dous rate. The Bit­coin has re­turned 35,971.51% gains on an in­vest­ment made in 2013 and Ethereum ral­lied 8,500% in 2017. The com­bined mar­ket cap of the to­tal cryp­tocur­rency mar­ket ap­pre­ci­ated 2,800% last year.

Un-cor­re­lated as­sets

Since dig­i­tal as­sets are not cor­re­lated with other as­sets, any move­ment in the prices of other cur­ren­cies and as­sets have no im­pact on them. This is es­pe­cially sig­nif­i­cant dur­ing global events such as the Brexit, EU cri­sis and so on, when fiat cur­ren­cies came un­der pres­sure. How­ever, the cryp­tocur­rency land­scape has only been on a run-up dur­ing these phases.

Store of value

Bit­coins and other crypto as­sets are fixed in sup­ply and can­not be in­creased in quan­tity. This en­sures that the value doesn’t de­pre­ci­ate.

Ease of trans­ac­tion

Since cryp­tocur­ren­cies are not cor­re­lated or linked to any cur­rency, ex­change rates do not af­fect the value of trans­ac­tions, en­abling them to be seam­less and easy.

Foun­da­tion for other in­vest­ments

The up­com­ing trend in the cryp­tocur­rency space is the fund­ing of star­tups. Also, blockchain tech­nol­ogy helps in in­vest­ments into other as­sets and in­vest­ment schemes. But is the pic­ture as rosy as it looks? To get com­plete clar­ity, it worth­while to un­der­stand the po­ten­tial down­sides of in­vest­ing into vir­tual cur­ren­cies.

On­line Users

Since the users of cryp­tocur­rency do not have a phys­i­cal pres­ence, there is a huge risk of fraud since their au­then­tic­ity can­not be as­cer­tained. Also, since the ju­ris­dic­tions in which the users op­er­ate may be dif­fer­ent, it be­comes in­creas­ingly dif­fi­cult to re­cover the in­vested monies.

Track Record

Since users of dig­i­tal cur­rency are anony­mous, their track record can­not be es­tab­lished and hence, the cred­i­bil­ity is in ques­tion.

Liq­uid­ity

Liq­uid­ity of dig­i­tal cur­rency is al­ways un­cer­tain, since the num­ber ac­tive buy­ers and sell­ers in the mar­ket­place may not be enough. In case of no sec­ondary mar­ket for a dig­i­tal cur­rency, illiq­uid­ity is a ma­jor is­sue.

Volatil­ity and lack of trans­parency

These in­vest­ments are ex­tremely volatile. Last year, the value of Bit­coin went from $1000 to about $19,000 be­fore drop­ping to $13,000 at the end of the year. These are highly spec­u­la­tive in­vest­ments and ex­tremely opaque due to non- avail­abil­ity of pub­licly avail­able in­for­ma­tion.

Se­cu­rity Risk

Dig­i­tal cur­ren­cies are highly prone to se­cu­rity risks as these are not al­ways en­crypted or the users may not have taken suit­able se­cu­rity mea­sures. Tokyo-based cryp­tocur­rency ex­change Coincheck was hacked in what is be­lieved to be the largest ex­change theft that wiped off as much as ap­prox­i­mately $530 mil­lion in value.

Frauds and scams also are a huge risk in cases of the use of the cur­rency to make pur­chases.

Money Laun­der­ing and Ter­ror­ist Fi­nanc­ing

Since the iden­tity of the users is not es­tab­lished in case of dig­i­tal as­sets, the funds in­vested are prone to mis­use and fund­ing of il­le­gal ac­tiv­i­ties. Even though as an in­vestor, one might buy the cur­rency for pure in­vest­ment pur­pose, they can al­ways come un­der the lens of en­force­ment agen­cies if the funds are used for any il­licit pur­pose. The trans­ac­tions in case of vir­tual cur­ren­cies are anony­mous, ex­ac­er­bat­ing the prob­lem. As a Fam­ily Of­fice Ad­vi­sor, I would rec­om­mend that in­vestors need to ac­cess their choice of in­vest­ment for cer­tain key qual­i­ties. The main pa­ram­e­ters I would be look­ing for in­clude: a) Clean b) Pa­tient c) Quiet d) Sim­ple To Man­age e) Well Planned and; f) Must con­trib­ute to leav­ing be­hind a bet­ter world

While dig­i­tal in­vest­ments do pro­vide stel­lar re­turns, they do not pos­sess any of the afore­men­tioned char­ac­ter­is­tics of a wise in­vest­ment op­tion.

As War­ren Buf­fett, the guru of in­vest­ing says about cryp­tocur­rency: “Stay away from it. It’s a mi­rage, ba­si­cally”.

Peter Smith, Chief Ex­ec­u­tive Of­fi­cer, Blockchain Ltd

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