Cryptocurrency. The one word that is almost banned in my house. The one topic that I often choose to gracefully bow out of arguing on because you will find passionate believers in it on the other side. But then, as the flurry and excitement about it finds new wings in India, I knew in some ways it had become an Elementum facet to Money which needed to be explored here.
Almost every other day, cryptocurrency is in the news for all sorts of reasons – good and bad. One day you read about two brothers making off with $3.6 Billion worth of bitcoin in the Africrypt scam. A few days later you get to know that El Salvador has recognised Bitcoin as a legal tender, implying their citizens could pay taxes in that “currency”. As a background, El Salvador is one of those free spirits giving all sorts of freedom, wherein currency acceptance depended on both parties agreeing to it. In case of the Bitcoin law passed on 8th June, a person being given Bitcoin has to accept it. So there starts another challenge.
But, if we went on talking about cryptocurrency anecdotally, this would become an infinite loop. So, let’s get started with the basics.
What is Cryptocurrency?
Cryptocurrency is a blanket term for an asset class and unlike what many people think, it is not synonymous with bitcoin. As the name suggests, it is like a secret vault and needs to be mined to be brought on ground. It is looked at as a way to transact value without any central authority or third party, but everything is recorded in a main ledger referred to as blockchain.
Started in 2008, bitcoin was the first cryptocurrency invented by anonymous entity by the name Satoshi Nakamoto. Today, bitcoin is considered the bluechip of cryptocurrency with the biggest market cap. Some of the other well known cryptocurrencies are Erthereum, Tether, Binance, Cardano and Dogecoin (made popular yet again by Elon Musk who often refers to himself as “Dogefather”). Like IPOs, a new crypto currency can be launched through the ICO or the Initial Coin Offering.
Most cryptocurrencies try and build in a supply limitation to ensure appreciation in value. For instance, the total supply of bitcoin is tagged at 21 million and the rate at which it can be mined is halved every four years. While Erethreum is technically unlimited, it has a stated supply per year.
Yahoo Finance mentions some interesting numbers. As of April 2021, 100 million people held cryptocurrency. The more fascinating bit was that there are now over 10,000 different cryptocurrencies although bitcoin retains the lion’s share of 46% in market share. India too, has seen a major surge of interest in the last one year when the value of cryptocurrency held by Indians increased from $923 Million in April 2020 to $6.6 Billion in May 2021 giving us a rank of 11 out of 154 in terms of cryptocurrency adoption.
So, what’s your beef with cryptocurrency?
As you may have picked up from the vibe in this post, I do not believe in cryptocurrencies. Yes, believe is the word because it really seems more like a cult than investing per se. But instead of ranting on without no route map, let me list down the reasons why the mere mention of cryptocurrency gets my antlers all up.
1. Underlying asset
One of my basic rules of investing is to understand the underlying asset in any investment that I make. That’s also the reason why equity is my favourite asset. It seems such a good way to invest in your belief that a company will grow. When you invest in a stock of Company X, you have seen their office or bought their product and have some yardstick to go by.
When you invest in debt, you understand you are sticking your neck out for one of the oldest financial processes – credit. When you invest in commodities or gold, yet again you know that you are putting in money with the hope of price movement for something tangibly useful.
Call me old or rigid, but with cryptocurrency I just do not understand what makes it valuable. Yes, it is computer code but what is it achieving? Even with today’s fiat currency, atleast initially it was backed by a universally acknowledged precious metal. What is cryptocurrency’s claim to fame apart from the greater fool theory of someone buying the story of it’s value and willing to pay a higher price than you did?
Today, cryptocurrency and volatility are spoken off in the same breath for very obvious reasons. Before I move on to examples, think about this. We consider equity markets to be volatile and among them, small caps to be most volatile (note, penny stocks have long since been banned in my investing consciousness). However, from Feb 12th 2020 to March 23rd 2020, the small cap index in India (BSE Small Cap 250) fell by 45% over 6 weeks and caused a ruckus. Plus the reason was quite strong, one that we are still living in currently, namely coronavirus.
In a two and a half week period from about May 8th to May 24th, most cryptocurrencies fell atleast 40%. Bitcoin being the bluechip of cryptocurrencies fell by about 42%, Ethereum fell further by about 50% while Dogecoin (the cryptocurrency invented as a joke) fell by a whopping 57%! Why? I am still to really understand. No, the Elon Musk tweet retracting bitcoin acceptance for Tesla happened earlier and affected only bitcoin. The Chinese government ban on the other hand, happened a few weeks later. So yes, this could just be enough and more bitcoin owners who deemed they had made enough of a profit to be happy about and get out.
To a lot of people this volatility makes it apparent that it cannot be a store of value. I thought this joke captured the essence of this thought very well:
Although, if this commentator writing in Forbes is to be believed, then the cryptocurrency enthusiasts are visionaries whereas mere mortals like me are just laggards waiting to realise the value of this “asset”.
3. No regulator
Today, when I sell products like insurance and mutual funds to first time investors, the concern is about putting in money into something invisible. What if the broker runs away? What if the company goes bust? That’s where a regulator brings value to those transactions know you can put your faith and money into it.
With cryptocurrency though, the absence of a regulator is a celebrated fact. The idea is to be released from the shackles of authority although personally, I am not sure to what end. I remain unconvinced.
In 2018, RBI had banned cryptocurrency making it illegal in India. In March this year, the Supreme Court overturned the ruling to give it acceptance again.
Last month, the Chinese government cracked down on mining operations for cryptocurrency in the name of carbon neutrality. Ironically, the massive power consumption was also the reason for Elon Musk to retract acceptance of bitcoin as legal tender at Tesla (or so he said).
This uncertainty about its legality, is not something I would want my hard-earned serious investing money to play see saw on.
5. Grey areas
When I think of investing, tax norms becomes a very important parameter. The difference in taxation becomes a guiding principal for investments and their risk assessment as well. For now, there is no official word on how cryptocurrency investments will be taxed. While Moneycontrol does mention that it can be taxed as business income or capital gains if held for investment purpose, I would rather be in the clear.
Things to keep in mind while investing in Cryptocurrency
Personally , I intend to stay away from this the way I maintain my distance from penny stocks. I like my peace of mind, and this is not for me. But, I for one, truly understand the regret caused by FOMO especially when you are surrounded by greed from sky rocketing markets and prices. We all want that moment to boast and show our prowess as money makers.
So, if you do want to dip your toes in these turbulent waters, think of it more as an online casino trip. Think of it as high-adrenaline speculation where you will use a fixed amount of money that you can afford to fully lose. Do not, I repeat, do not confuse it with investing till the time there really seems to be some method to this madness. Play all you want with it. But when it’s time for serious investing, traditional assets it’s gotta be.