Opinion: Are cryptocurrencies the currency of the future, or another madcap scheme?

The big news in cryptocurrencies on Monday was that Goldman Sachs had been reported by the Wall Street Journal to be considering launching  a “new trading operation dedicated to bitcoin and other digital currencies, the first blue-chip Wall Street firm preparing to deal directly in this burgeoning yet controversial market”.

Last week, we heard that South Korea’s financial regulator had announced plans to prohibit domestic companies and start-ups from participating in initial coin offerings, among other new measures aimed at tightening up on the cryptocurrency fad; and this came just a day or two after Bloomberg reported that certain Singaporean banks had been found to be closing the accounts of companies  that specialised in providing cryptocurrency services.

Below, Paul Gambles, the Bangkok-based head of the MBMG financial advisory and wealth management group (pictured), considers whether cryptocurrencies really are the future – or, as JPMorgan Chase CEO Jamie Dimon suggested recently, today’s version of the tulip bulbs that many 17th century European investors lost significant sums speculating on, when the plant first began to be sold in Europe.

It’s difficult to say exactly when the current cryptocurrency mania began, or what set it off, but I would suggest that it began on the first of September, when Bitcoin closed the day’s trading at US$4,904.

This raised a few eyebrows; not only because this was an all-time high price for that cryptocurrency, but also because six weeks earlier – on 15th July, to be specific – a Bitcoin was priced at ‘just’ US$2,377, continuing the trend that had become apparent when Bitcoin (or “BTC”, as it’s known to aficionados) first broke the US$1,000 threshold on 2nd February of this year.

For devotees of Bitcoin, this price action led to calls that it should now be taken seriously as a legitimate currency – little realizing that this actually highlighted the logical fallacy inherent in cryptos: while they can remain hidden and unused (other than as the base currency of the dark web), they’re a great concept, but the minute that they actually come out into the light, their entire value as a furtive contract disappears.

This is especially the case as they become a visible target on the radar screens of genuine issuers and official purveyors of currency to the  marketplace. I would include in this category JPMorgan Chase CEO Jamie Dimon, who, in widely published remarks last month, declared the virtual currency a “fraud”, and that he wouldn’t allow JPMorgan Chase traders to handle it because it was “stupid” and “far too dangerous”.

And Dimon isn’t alone, of course. Other recent and outspoken critics have included billionaire US investor Howard Marks, who observed in July that cryptocurrencies were “pyramid schemes”;  Warren Buffett, who back in 2014 described them as a “mirage” best avoided; and DoubleLine Capital founder Jeffrey Gundlach, who last month explained how he set his 86-year-old mother right on Bitcoin, when she asked his advice as to whether she should invest.

On top of this, even the UK’s Financial Conduct Authority, which in the past hasn’t always been as quick to wise up to scams as some investors and their advisers think it should have been, has already gone so far as to label initial coin offerings as potential frauds,   in a statement on its website on 12 September. 

“ICOs are very high-risk, speculative investments,” the FCA warned. “You should be conscious of the risks involved … and [be] prepared to lose your entire stake.”

For investment professionals, meanwhile, the question needs to be addressed: what exactly are these cryptocurrencies; and why are they suddenly so sought-after? If I play it safe, will I miss out big time?

And are cryptocurrencies really currencies, anyway?

Some answers 

They may be cryptic and encrypted, but whether we can classify cryptocurrencies as currencies, based on what we understand a currency to be, is still a matter of some debate – surprisingly enough, this late in the game.

The argument that they’re not actually a currency because there are no coins or notes isn’t, however, the problem.  As late American economist Hyman Minsky wrote, “Anyone can create money; the problem is to get it accepted”.

And in fact, these days, people routinely use “virtual money”, in the form of credit and debit cards, for example, to pay for goods and services. This money is often never converted into coins or notes. Most of the world’s largest economies today are fueled by virtual money transactions, as cash plays a minor and generally shrinking role.

It’s estimated, for example, that only around 3% to 5% of all the money circulating in the UK economy at any given moment is made up of actual notes and coins.

What’s more, you actually can buy goods with cryptocurrencies now, which would appear to be another argument in favour of regarding them as proper currencies. Download a “Bitcoin wallet” app onto your smartphone, and you can use your crypto account to buy food, drink and even clothes, simply by swiping your phone on a reader.

What’s more, if you’re running low on the crypto-necessary, you can simply go to a specialist ATM or bureau de change and top up.

One online travel agent even  reportedly accepts Bitcoin as payment for flights, holidays etc, and you can also purchase Microsoft products directly from its website using the cryptocurrency. Interestingly, it is said that one of the reasons retailers who already accept cryptocurrency like it is because for now, at least, it doesn’t impose on them the transaction costs they are required to pay to conventional credit card providers for all purchases made by customers using their cards.

‘Bitcoin ≠ baht, US dollar, pound sterling, euro’

So, Bitcoin – and potentially other cryptos – are just like  US dollars, British pound sterling, euros and Thai baht, right? Well, actually, no. They’re not.

To start with, a search of how many businesses actually accept Bitcoin reveals that at this point there are just 21 food shops, 19 pubs and 22 clothes shops in all of the United Kingdom that will take Bitcoin in payment.

Plus, there are just 33 Bitcoin ATMs in the UK. And rather than increasing, some experts say this figure may actually decline, as the trend seen in the earliest-adopting countries has been for Bitcoin to become an option on a normal cash ATM, rather than requiring its own machines.

Another issue standing in the way of BTC becoming interchangeable with the world’s other major currencies, for the foreseeable future at least, is that verification processes have proved too consistently slow to be practicable.

In Thailand, where MBMG is based, there are plenty of people “mining” Bitcoin currently  (that is, being paid for validating transactions between two unconnected parties), but there are few places that actually accept it: 23 in the Bangkok area at last count. These include, the Bangkok Post noted recently,   Lim Lao Ngow, an 80-year-old fishball noodle shop in Bangkok’s bustling Chinatown.

Rolling the Dice

What’s more, Bitcoin and its closest rival, Ethereum, are in no way in as such widespread use as digital transactions of national/regional currencies that make use of bank or credit cards. But these are early days.

And at the moment, Bitcoin is highly volatile. In 2013, a story emerged about Norwegian Kristoffer Koch who, in 2009, had paid 150 kroner (around US$27) for 5,000 Bitcoins. He completely forgot about them until he heard about Bitcoin in the media in April 2013. By then, his tiny investment was supposedly worth 5m kroner (US$886,000), assuming he could find a buyer for his Bitcoins. Koch managed to exchange 1,000 of his Bitcoins into kroner, and bought an apartment in a prosperous part of Oslo. I don’t know what he did with the other 4,000 Bitcoins, but if he’d held onto them until the latest peak on 1st September, they’d theoretically be worth US$19.62m!

All that sounds fantastical. In many ways, it is. If national/regional currencies behaved in such a manner, investors would stuff cash under their mattresses until what they thought was the right moment, and my job would consist of throwing dice at a craps table.

What happened to Kristoffer Koch is only part of the story, though. If we look at when Koch remembered about his tiny Bitcoin investment, he still needed the good fortune of timing to exchange his ,000 Bitcoins. According to one exchange (Bitfinex), Bitcoin began April 2013 at a value of US$104, ended the month at US$139. It peaked at US$230 on 9th April, but then bottomed out at US$68.46 just a week later.

Consequently, if Koch had remembered about his Bitcoin holding at the beginning of April, he’d have cashed in 41% less; and if he’d have sold on 16th April, he’d have received 61% less.

Editor’s note: Paul Gambles is managing director of the MBMG Group, which is based in Bangkok. He was the subject of an International Investment profile last year. This was the first of two parts on cryptocurrencies; the second part will look at whether cryptocurrencies are ever likely to have a real use, and if so, when that is likely to be.

Gambles said he wished to thank Gerry Brady, the founder of the BOOM Finance & Economics weekly newsletter, for his help in enabling him to write this piece.

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