What if in 2004 clients asked you if they should buy Google stock when it was valued at $85 a share at its initial public offering? Back then, you wouldn’t have known Google would go on to be worth about $1,000 a share. Instead, your answer may have depended on how well you understood your client’s risk tolerance as well as if you grasped the significance of search engines and Google itself.
For many financial advisors, talking to clients about cryptocurrency and the blockchain as part of an investment strategy may have them wondering if they’re missing out on the next Google. As a financial services professional, you may even wonder if you’re failing to notice a quantum leap in the banking and financial services world.
Is bitcoin part of an investment strategy, a banking revolution or both?
In fact, cryptocurrency and the blockchain were created as an answer to perceived flaws in how the financial services and banking world works. Trust in a centralized ledger system is what keeps the current system running. When Lehman Brothers collapsed in 2008, however, that trust was shaken. And it soon gave rise to the first form of digital money, bitcoin.
Lehman Brothers — and banks — miscounted assets, which happened because there was no visibility in the central ledger. “It’s the cost of trust,” said Michael Casey, a senior advisor at the Digital Currency Initiative at MIT’s Media Lab and 2018 Top of the Table Annual Meeting speaker. And when that system doesn’t work, it causes massive disruption and disarray.
What is bitcoin?
In 2009 bitcoin became the first form of cryptocurrency, or digital money. Each bitcoin is a unique string of numbers. It’s money that exists independent of any country’s economy, which could have other implications for banking and financial services.
Unlike paper money and coins, which governments produce, the supply of bitcoin is strictly limited. Only 21 million bitcoins were created, and making more would be extremely difficult. About 17.5 million bitcoin are “in circulation,” with that number changing every 10 minutes. One bitcoin can be divided into 100 million satoshis, which allows fractions of a bitcoin to be spent.
There are approximately 1,500 other forms of cryptocurrency, or altcoins. At this point, there are no clear winners at the finish line. It’s too soon to know which ones will be the next Amazon or Google, Casey said.
Beyond bitcoin, there’s the underlying system that makes it all run. If bitcoin is a train, then the blockchain would be the railways. Some experts believe blockchains may be what revolutionize banking.
Blockchains work through a decentralized series of network members or nodes. Each time a transaction is made, such as person Y sending bitcoin to person Z, it’s broadcast to the nodes, which then verify through a common ledger that person Y has the available funds and the ledger is changed. Everyone is sharing a common ledger, much the same way people can edit through a shared Google document.
Digital payments are only the beginning of the possibilities of blockchain technology. Smart contracts are another, and these could have implications for something like insurance policies. Smart contracts work by software developers encoding the terms of a contract in a blockchain to make the terms self-executing. For better or worse, though, this allows no possibility for appeal or reversal.
No one knows if bitcoin will be here in 10 years or if it will slip into valueless obscurity as another yet-uncreated altcoin rises to dominance. Perhaps, though, there’s more to it than that. Maybe it’s about a mind shift happening to evolve and move beyond our current systems for banking and recordkeeping to one that’s faster and more equitable. Whether or not that should be part of an investment strategy would be an informed decision based on risk tolerance.
Read more about how financial advisors are thriving with technology.
What’s one Bitcoin worth?
In January 2019:
For the current value of bitcoin, visit coindesk.com/price/bitcoin.
How do you get bitcoin?
You can buy cryptocurrency on websites such as coinbase.com. Many of the major banks are wary of cryptocurrency purchases, though, and won’t allow their credit cards to be used for it. Another option is purchasing bitcoin with cash through bitcoin ATMs, which can be found through coinatmradar.com.
Taxes and cryptocurrency
You must pay taxes on cryptocurrency in almost all countries (Singapore being a notable exception). For example, the U.S. Internal Revenue Service determines cryptocurrencies to be property, like stocks or real estate. Buying cryptocurrency is not a taxable event, but selling it is. You must pay taxes if you’ve realized a capital gain and you can lower your tax bill if you’ve taken a loss.
Crime and cryptocurrency
Bitcoin and other cryptocurrency create a digital footprint, since the blockchain is publicly accessible. But some people can get around this by using anonymizing software. To combat this, measures are being taken to bring digital currencies in line with existing anti-money laundering and counter-terrorist financing legislation.