At this point, you might fall into one of two camps: Either you would die happy never having to hear the word “bitcoin” again, or your eyes light up like two giant dollar signs at the mere mention of the most famed of all cryptocurrencies. But what if you’re only a little curious about the new darling of the digital age? Is it really the get-rich-quick investment everyone keeps going on about? Or are bitcoin fanatics just digital snake oil peddlers? The answer, as always, is a bit more complicated.
Why people invest in bitcoin
Cryptocurrencies are digital currencies that only exist online, don’t rely on any central bank or authority or server, and disguise transactions through cryptography. Having been around since 2009 when it was released as open source software, Bitcoin arguably enjoys the greatest name recognition among them. Bitcoin transactions are recorded on a blockchain, a publicly accessible electronic ledger. Each block in a blockchain is created when a transaction is confirmed by someone called a bitcoin “miner,” who receives the bitcoin after a software finishes certain math problems (getting into the nitty gritty of blockchain is an essay unto itself, but this is the gist of it).
The anonymity of bitcoin one of the reasons why they’re a huge hit with a wide range of people—especially those who’d rather keep their transactions private out of principle, and, more recently, those who want to hop on to the virtual gravy train before it’s too late.
News stories of early bitcoin investors becoming multi-millionaires were just frequent enough to keep people interested and to maintain an atmosphere of constant hype. Some might even call it a bubble. However, so-called “bitcoin evangelists” would tell you not to worry since, according to them, the cryptocurrency’s rise is just starting, and it’s here to stay. While we have no way to know whether that’s true or not, the enduring popularity of bitcoin has a lot of people wondering whether they, too, should get involved.
Bitcoin’s price peaked in 2017 when it reached over $17,000 per bitcoin, and then spectacularly dropped to about 80% of its peak price within the span of 12 months. Now it’s been steadily climbing again for the first five months of 2018, and currently sits at around $8,200. You can see bitcoin’s slow and steady advancement from 2010 to its rapid rise in 2017 and its equally rapid drop in 2018, as well as its slow upward climb in early 2019, on the graph below: [Image: bitcoin prices chart.png] Those stories of people investing thousands of dollars into bitcoin and watching their investment grow by 200 or 300% within a year, making them instant millionaires in the process, are certainly enticing. But bitcoin, and all cryptocurrency, are wildly volatile, with some financial experts calling it a speculation, not an investment.
Why you should not invest everything in bitcoin
Letting bitcoin take up a big chunk of your portfolio also prevents you from properly diversifying your portfolio. If you’ve spent any time on this site, you’ll know that we’re big fans of diversification. That’s because a diversified portfolio ensures that you’re never putting all of your eggs—in this case, your hard-earned cash—in one basket, therefore ensuring that if one industry or company crashes, your losses are mitigated because you didn’t have too much invested there to begin with.
If you do want to invest, it’s wise to not put all of your money in bitcoin, or even make it a significant part of your portfolio. The cryptocurrency’s inherent volatility doesn’t make it a reliable asset, either, as it could very well quadruple your investment within a month and then erase it all just as quickly. Speculative investments like this don’t tend to mesh well with the advice we usually give out, which takes the “unsexy but steady” advice: Pursuing long-term, steady growth achieved through a balanced portfolio and a passive investment style.
But if you do want to try your hand at bitcoin, then make sure you’re investing an amount you won’t miss if bitcoin takes another downward turn. It’s helpful to think of investing in bitcoin like gambling. You want to make sure you’re putting in an amount that won’t hurt (too much) if it’s gone.
Therefore, if you want to make bitcoin part of your portfolio, it shouldn’t take up more than 5%, max. Once you’ve figured out how much you can safely spend, you’ll need to sign up for a “digital wallet” that will hold the bitcoin you purchase—there are plenty of sites that host wallets and let you sign up—connect your bank to the wallet, and trade on a digital exchange, which is basically like a stock market, but for cryptocurrencies. You can often buy bitcoin directly on the platform that hosts your wallet.
The risk of investing in bitcoin
Obviously one of the main risks that come with bitcoin is its volatility. If you had purchased bitcoin on December 19, 2017, each coin would have been worth $18,936. But just a couple of days later, on December 23, each coin was only worth $14,048. That’s a 29% drop, or a loss of $4,888 per coin, just within the span of a couple of days. And it’s not the first—and likely not the last—time that the price of a single coin yo-yos so fast.
Cryptocurrencies are considered risky investments because they lack the historical track record of other assets or commodities such as gold. Not having a track record means it’s hard to determine whether bitcoin’s levels of volatility are part of its normal cycle or something more atypical. And because it’s a technology that’s still in its early stages, it’s incredibly hard to foresee where it may be going, what challenges it may face in the future, or how new technological advances will affect bitcoin. This also raises questions of security: After all, $70 million worth of bitcoins have reportedly been lost so far by several cryptocurrency exchanges and miners.
Another issue with investing in bitcoin: The amount of energy required to “mine” one dollar’s worth of bitcoin is more than twice the energy required to mine the same value of copper, gold or platinum. So-called mining farms, where computers are constantly solving problems to create new bitcoin, are huge energy gobblers in a way that’s not particularly sustainable or, depending on your opinion of bitcoin, reasonable. So if you care about sustainable investing, keep this information in mind.
How you decide to invest your money will always be your choice. But if you think your style might lean more toward a steady, well-diversified portfolio that has a chance to grow over time, then investing in low-cost ETFs might be the move for you. We’re certainly a little biased, but we think the best home for a first-time investor, or a hundredth-time investor for that matter, is Wealthsimple We offer state of the art technology, low fees, and friendly financial advice that’ll guide you through your long-term financial goals. Sign up now or find more details here.