Bitcoin. It’s everywhere. Thanks to its skyrocketing value, it’s been a regular topic on the front page of every financial website. One bitcoin is currently worth $5,500, up from $1,000 in December.
I hear what you’re thinking. Wow. So, what’s bitcoin? And am I missing out on something?
Bitcoin, simply put, is a currency, similar to the dollar, euro or peso. Unlike traditional currencies, bitcoin isn’t issued by a government. It’s a virtual method of storing and transferring value created in 2009 by an anonymous person who went by the alias Satoshi Nakamoto.
As with traditional currencies, bitcoin’s value fluctuates as it is traded in an open market against the dollar, yen, et cetera. Bitcoin only has value because bitcoin believers say it has value. Of course, that’s pretty much true of all the ways we store wealth.
So, how do you acquire bitcoin? Again, as with any other currency, you can convert your U.S. dollars into bitcoin. This can be done through any one of several digital banking and currency apps. I have a Coinbase account (available for iPhone or Android) that allowed me to convert $10 US into $10 worth of bitcoin. I use this mostly to pay off golf bets.
Because each bitcoin is currently worth over $5,000, I own just a tiny fraction of one coin. There are other, more complicated ways to acquire bitcoin as well, including accepting it as payment, or “mining” for it. Mining for bitcoin is a topic for another day, but let’s just say it’s an intensely math-oriented videogame version of panning for gold. Seriously. Look it up.
Using bitcoin isn’t much different than using your bank’s online pay services. You store your bitcoin with a digital currency bank, like Coinbase, and use their app to pay merchants from your account.
So, how do you know your wealth is secure when it’s stored as bitcoin? After all, traditional money is routinely stolen via the internet. And every currency in the world struggles with counterfeiting. The answer to that question contains the real magic of bitcoin.
Bitcoin is based on the most secure data transfer system ever devised, blockchain technology. Blockchain is a distributed ledger technology designed to super-securely track a history of transactions, much like what’s recorded in a bank ledger or real estate records office.
Think of blockchain this way. Remember the game “whisper down the lane”? (Maybe you called it “telephone”?) The game went like this: There was an initial phrase, and each kid was asked to whisper it to the kid next to them. On and on down the line it went. The fun was that, no matter how hard we all tried, the phrase invariably changed from the first kid to the last. You may have started with something like “bologna sandwich,” but the final player would announce that the phrase was “Barack Obama likes his sand wedge.” Therein was the fun, and therein is the example of how layers of transfer change data, oftentimes impacting it to become inaccurate over time.
Now, let’s imagine a game of whisper down the lane using blockchain. Every time there was a whisper down the lane, every player would have to verify the phrase with every kid who went before him or her, making sure that they heard the phrase perfectly right before they could move on to the next player. So, kid 6 would have to verify with players 1-5 before sharing the phrase with kid 7. The phrase would be reverified all the way back to the first kid each time it traveled to a new kid. This is blockchain technology.
This is why bitcoin is so secure. Each bitcoin has a unique serial number. Each user also has a unique code, like a fingerprint, to “sign” for a transaction. Every bitcoin transaction is recorded in a public ledger — a database that anyone can look at to monitor the history of transactions for every bitcoin. This history is unalterable, thanks to the powerful security provided by blockchain. In order to hack a coin, a criminal would have to break into every single transaction in that coin’s history — a complex, nearly impossible task. One that is infinitely tougher than printing fake $100 bills, or hacking a bank account.
Now that you know a little something about bitcoin, on to your next question: Should you be investing in it? It’s hot, that’s for sure. Wall Street behemoth Goldman Sachs is reportedly considering opening a bitcoin trading operation. Why all the interest and hype? Simple — bitcoin’s skyrocketing value. Last December, a bitcoin was worth $1,000. Today it’s over $5,500. That’s a 500-plus percent increase in one year. The bitcoin currency chart looks like a skateboard halfpipe that goes a mile into the sky.
But here’s my concern. Bitcoin certainly has a lot of intrinsic value as a new and super-secure way to transact business. But its volatility on the market is deeply problematic. Bitcoin trading isn’t regulated or influenced by a central bank like the Federal Reserve. It’s buyers and sellers going straight at each other. There are no “breakers” in place to stop a free fall in bitcoin value, as there are in traditional markets. While that no doubt appeals to Ayn Rand fans, it may not be a great place to invest a significant amount of your money.
Remember the dot-com bubble and that Florida real estate that “could never go down”? Every time in history we’ve seen a chart like this, it’s crashed. So, in my opinion, for bitcoin, it’s not a matter of if, but when. My skepticism isn’t helped by the currency’s vague origins.
I think it’s fine to use bitcoin in tiny quantities. I keep less than $100 worth of bitcoin in my account, and it’s earmarked strictly for those losing golf bets. Rest assured, the Moss family won’t be letting our retirement ride on bitcoin.