Many believe Bitcoin has positively changed the landscape of the global currency markets.
But investors holding this high-tech currency could be playing with “dirty money.”
You see, since the currency can be untraceable, you may never know who you’re selling it to, or buying it from.
That trait makes Bitcoin the preferred method of payment for the online drug-dealing industry.
In fact, the digital drug lord, the Dread Pirate Roberts, credited Bitcoin with making his Silk Road drug retail website a huge success!
But that’s not the only reason why investors should think twice before getting involved in Bitcoin…
Currency or Commodity?
While Bitcoins can be used for purchasing goods and services, it’s been trading more like a commodity.
And a highly volatile one…
This technological marvel has led many to question their faith and confidence in legal tender… and the governments that control them.
But the deep instability of Bitcoin prices explains, in part, why widespread adoption of this currency has failed.
On October 5, Bitcoin fell nearly 20% to $286 – its lowest level in 2014.
The last time we saw Bitcoin at this level was the result of an August flash crash that briefly sent it from $500 down to just above $300.
Indeed, Bitcoins have experienced wild price swings since the currency’s release in 2009 by an unknown person (or persons) under the alias Satoshi Nakamoto.
The price reached a peak of about $1,150 near the end of 2013. But it has suffered since, going through violent moves along the way – and is now down two-thirds from that peak.
Bitcoin enthusiasts rally around the fact that its price has increased by over 100% over the last year.
But even Bitcoin’s most staunch supporters are having trouble explaining the recent decline.
Too Much in the Change Purse
Bitcoin’s fall in price may be the result of oversupply, as the number of merchants currently accepting Bitcoins has steadily increased.
Amazon (AMZN), Dish Network (DISH), and even the Sacramento Kings use third-party payment processors like Coinbase to convert Bitcoins into dollars. This means that there are more Bitcoins in circulation. And that puts pressure on the price.
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The inherent nature of Bitcoins also creates uncertainty.
Bitcoins are backed by the full faith and credit of… well, actually nobody. They’re only recognized by those who choose to accept them.
The currency is created when people compete to “mine” them. New supplies of Bitcoins are created from a computer’s processing power and the users behind them.
These characteristics make it very difficult for governments to regulate Bitcoins, but that doesn’t stop them from trying.
Plus, although each Bitcoin transaction is recorded in a public log, names of buyers and sellers are never revealed – only their wallet IDs. That keeps Bitcoin users’ transactions private, and it lets them buy or sell anything without easily tracing it back to them.
This lack of transparency drives the government crazy, as it has no authority over the Bitcoin market. The Internal Revenue Service is particularly perturbed about taxation, and the revenue they could otherwise collect in a regulated market.
Buy, Hold, or Stay Away?
While this is not the end of the Bitcoin, its volatility is likely to persist, and it’s still difficult to get a true grasp of its value.
But if you believe that now is the time to get in or add to your position, you should wait until October 21 – the end of the comment period on Bitcoin regulation. At the very least, you should closely follow the rhetoric generated from debate.
If you choose to buy Bitcoins, there are several marketplaces called “Bitcoin exchanges,” which allow people to buy or sell Bitcoins using different currencies. Bitstamp is one example.
But there are other ways in which you’ll be able to buy in…
- In the ETF market, Bitcoin enthusiasts Cameron and Tyler Winklevoss are planning to launch the Winklevoss Bitcoin Trust (COIN) on the Nasdaq. However, they’ve updated their ETF filings four times and the launch date is still unknown.
- Another Bitcoin fund, SecondMarket’s Bitcoin Investment Trust (BIT), plans to launch in the fourth quarter. However, it’s not an ETF. SecondMarket will effectively circumvent the regulatory process by transforming BIT into an open fund for investors. It’s still waiting on approval from the Financial Industry Regulatory Authority and OTC markets.
Ultimately, though, like any investment, investors should be aware of the risks. Simply holding Bitcoins means your virtual wallet is in the cloud – susceptible to being hacked, stolen, accidentally deleted, or destroyed by viruses.
UPDATE: A previous version of this article mistakenly named Mt. Gox, which is no longer in business, as a possible currency exchange. The editors also implied that there is an infinite amount of Bitcoins. This is incorrect.