Though they might not have been designed to be a vehicle for investments, the rapid and skyrocketing price of cryptocurrencies like Bitcoin and Ethereum have attracted much interest among speculators who hope to make a quick buck. These investors buy into cryptocurrencies for their investment potential rather than to use them as a medium of exchange.
This article will predominantly address the perspective of people buying cryptocurrencies for investment purposes, and not for those who want use their cryptocurrency to pay for lunch.
#1 Policy and Regulatory Risks
As decentralised digital currency, Bitcoin has been used for illegal black market transactions, money laundering, tax evasion, and probably other unsavoury purposes that law-abiding citizens cannot even imagine. Governments around the world are watching this space carefully and there is no telling what they will do, from tighter regulation and restriction, to outright bans, which some countries have already done.
Earlier this month in Singapore, it was reported that local banks have shut down the bank accounts of cryptocurrency firms, which led to confusion and inconvenience. As a nascent currency, there is quite abit of certainly about the road ahead, especially if cases emerge of abuse of cryptocurrencies in Singapore.
#2 Volatility Risk
The volatile nature of Bitcoin that makes it so attractive for speculators is also one of its most dangerous aspects. Unlike the early days of Bitcoin’s inception a few years ago, a Bitcoin costs more than SGD $5,000 today.
If you were to get into Bitcoin today hoping to double your money, you will be risking a lot of money banking on the price to climb. Will Bitcoin soar to $10,000? Maybe. But it is also equally likely that it will plunge to $2,500. Do you have the stomach for that?
Typical 30-day volatility is about 40% and a 90-day volatility is close to 70%. Though it still follows a general uptrend, Bitcoin speculation is not for the faint of heart.
#3 Security and Fraud Risks
In order to purchase, store and make transactions with Bitcoin, you will need to use a payment processors, wallets, and exchanges. The level of security that these services have is not easy to assess, even for experts. In addition, any computer system, no matter how secure, is at risk from hackers, malware and system glitches.
An infamous example of the security risks of digital currency is that of Mt. Gox, which was one of the biggest Bitcoin exchanges during its heyday. It was hacked in 2014 and hundreds of millions of dollars worth of bitcoins were stolen. Until today, customers are still waiting and wondering if they will get any of their money back. Since there is no third-party intermediary, Bitcoin users have no one to turn to if there is theft or hacking, unlike shady credit card or bank account transactions.
If you only keep your Bitcoins in an offline wallet on a hard disk, it could get corrupted and become unreadable, causing you to lose all your Bitcoins. If a hacker gains access to your computer and retrieves the private encryption key associated with your Bitcoins, they will be able to send your Bitcoins to themselves.
Bitcoin, like other cryptocurrencies, is relatively new and it is not easy for the person on the street to protect themselves against scams. How do you know if you legitimately bought a Bitcoin? There are cases of fake Bitcoins being sold, including Bitcoin-themed Ponzi schemes.
#4 Competition and Technology Risks
Bitcoin is one of the first cryptocurrencies that catapulted into mainstream consciousness. Despite its success, there are glaring issues with the current Bitcoin software. It is already struggling to cope with the scale of transactions each day. Dealing with these issues require consensus, which is harder to get than you might imagine, and might break backward compatibility with existing Bitcoin systems, also known as a hardfork.
Though Bitcoin is only a few years old, there are already plenty of new forms of cryptocurrencies, numbering in the hundreds, each with their own unique features and vying with one another to be the next de facto cryptocurrency. The speed of technology advancement mean that new protocols that offer radically faster transactions, stronger encryptions and other new features could dethrone Bitcoin and cause abandonment and devaluation.
Another danger that all cryptocurrencies face is the possibility that breakthrough cryptographic techniques or advancements in computing, such as quantum computing, might render the integrity of Bitcoin block transactions moot. If this happens, then it becomes impossible to tell genuine transactions from fraudulent ones. This must be one of the things that keep Bitcoin enthusiasts up at night. Perhaps equally scary for them is the possibility that a vulnerability in the Bitcoin protocol is found that leads to the collapse of the currency.
Just remember: caveat emptor (buyer beware).
Bonds and Fixed Income