The Bitcoin boom was the big financial story of 2017 as the price soared into the stratosphere – though many experts dubbed it the Bitcoin bubble, convinced a crash is just around the corner.
So will 2018 be the year cryptocurrencies came of age? Are they a safe investment, or an investment car crash waiting to happen?
That’s a vital question, with new research suggesting as many as one in three millennials will have invested in cryptocurrency by the end of this year.
First a quick recap on the momentous events of last year. On 2 January 2017, the price of Bitcoin stood at $985. By 17 December it had reached an all-time high of $19,086 – that’s a mind-boggling 1,837% increase, although the price has now fallen back to $14,124.
Ethereum – the second biggest cryptocurrency by market capitalisation – started 2017 at just $8.16; today it is trading at $1,240. That’s an even more spectacular rise, in percentage terms, of 15,400%.
How cryptocurrencies work
First, it’s important to understand how digital currencies work. Everyone is familiar with the concept of a hard currency such as the dollar or the pound, issued by a central government.
All cryptocurrencies make use of what is called distributed ledger technology, or ‘blockchain’ – a database of transactions stored in the cloud that is continuously updated and certified.
Each new transaction creates a ‘block’ of data that is completely tamper-proof thanks to complex cryptographic algorithms that give the currency its name.
Currencies such as Bitcoin and ethereum are generated by an opensource, peer-to-peer network.
New bitcoins and ether tokens are ‘mined’ using special software, with rival teams competing to solve complex mathematical problems. They are paid with new bitcoins, generating new currency that has an intrinsic value – the financial effort put into producing it.
Other ditigal currencies, such as Ripple, are simply created by the company that owns them.
It’s easy to think of cryptocurrencies as a two or three horse race, but that’s far from being the case.
There are actually more than 700 different cryptocurrencies in existence – although many have been launched specifically to fund new business startups; a sort of alternative share issue.
Back in September 2017 I wrote that only a dozen digital currencies had a market capitalisation in excess of $1bn, with Bitcoin’s market cap then roughly $70bn, ethereum in second place at $28bn, followed by Ripple at $8.2bn, Litecoin at $3.4bn and Dash at $2.4bn.
41 $1bn-plus currencies
Just look at the situation now. As of today (12 January 2018) there are an astonishing 41 cryptocurrencies with a market cap in excess of $1bn – a real indication of just how deep this market is.
The top three are the same (although Ripple did briefly edge out ethereum for second spot) – but look at the market caps of the top six contenders. Bitcoin stands at $237.3bn, ethereum at $120.5bn, Ripple at $79.7bn, Bitcoin Cash at $43.4bn, Cardano at $19.5bn, and Litecoin at $13.2bn.
The total market cap of the top 100 cryptocurrencies is $710bn.
Obviously market cap is dependent on price, but even if you argue that Bitcoin is way overpriced, which it probably is, there is plenty of other meat out there for those keen to sink their teeth into some serious cryptocurrency investment.
Here to stay
There is no doubting that cryptocurrencies are here to stay. Let’s go back to that report that said one in three millenials will have invested in a digital currency by the end of the year.
The study by Opinium for new cryptocurrency exchange London Block Exchange (LBX) shows 5% of under-35s have already invested cash in a cryptocurrency (and 25% wish they had).
A further 11% are definitely planning to invest this year, while 17% are seriously considering investing by the end of 2018.
By comparison, 57% of over-55s said they would not be investing in cryptocurrencies in 2018.
“This study underlines the gulf between the younger generation’s view of money and that of their parents and grandparents, who had assets perform so well for them in pensions or property,” said LBX founder and chief executive Benjamin Dives.
“Millennials clearly feel left behind by the old system and are looking at cryptocurrencies as a new dawn.”
Other experts agree. In a 2017 Goldman Sachs video conference, AngelList founder Naval Ravikant said he believed blockchain and cryptocurrencies were introducing a wider group of people to the investment process.
“Anyone can participate in a market, within reason, like a stockmarket or the credit markets,” he said. “But they're limited by the amount of capital they have. They have skin in the game.
“Blockchains allow you to bring that… into all kinds of places where markets would normally not exist. It's allowing us to remake things that normally required a centralised authority in a decentralised way.
“More and more of capital formation’s going online, more and more of it is being distributed geographically, more and more people are getting to play.”
How to invest in cryptocurrencies
- You can buy the coins themselves via a digital currency exchange, though these are not without risk – in 2014, Japan’s Mt Gox, the world’s biggest exchange handling 70% of global transactions, admitted it had been hacked and 850,000 bitcoins had been stolen – valued then at $450m.
- You can invest in a fund that holds it, which is arguably safer than using a currency exchange. Britain’s biggest broker Hargreaves Lansdown has recently given investors access to the Bitcoin Investment Trust, but because the Bitcoin price is in dollars and the fund provider is a Swedish company, you are liable to fluctuations in the dollar/krona exchange rate.
- You can trade it using a CFD or contract for difference. A CFD lets you trade the price movement of financial markets, rather than having to own the underlying instrument. This means you only pay a small fraction of the total contract value up front, and you can choose to trade it either on the rise or on the fall. However, as a highly leveraged product, there are risks that you could lose substantially more than you invest.
Latest cryptocurrency volatility
But what about that volatility, I hear you say? It’s undoubtedly a major factor, and for that reason anyone thinking of splashing out on a wad of Bitcoin should be wary. Its dramatic rises – and falls – over 2017 should give any investor pause for thought, unless you are looking for momentum trades and trying to ride the sentiment.
But as we’ve already seen, cryptocurrency trading is far from being a one-horse race. If you’re looking for a less volatile investment, you would be better off looking at some of the other cryptocurrencies out there – although etherium has seen its fair share of highs and lows over the past year.
But whereas Bitcoin has been something of a wild child beloved of drug dealers and tax cheats, many of the other currencies have a more serious underpinning.
Altcoin market gaining ground
One of ethereum’s creators, Steven Nerayoff, says ethereum is gaining momentum thanks to the growing number of projects built on the platform.
“What you're seeing with ethereum is exponential increase in the number of projects — there are billions of dollars being poured into the ecosystem right now — maybe 10 times more projects this year than last year, which could easily lead to a doubling, probably a tripling in price by the end of the year,” he told CNBC.
Ripple, another rising star owned by a California-based company of the same name, is aimed at the financial sector.
It has already established itself as a firm favourite, being used by banks such as Santander, Bank of America and UBS.
Unlike Bitcoin and ethereum, Ripple (the actual currency is called XRP) isn’t ‘mined’ but is controlled by the company, which has created 100 billion XRP – with roughly 38 billion in circulation.
However, any potential investment in cryptocurrencies needs to be carried out with extreme caution, warns Laith Khalaf, senior analyst at Hargreaves Lansdown.
“I still think as an investment proposition it’s a very niche proposition for extremely sophisticated investors who understand what they are buying,” he said.
“It’s a very early stage of this whole market, and I think if you’re someone who’s saving for a rainy day or for your pension or your children’s inheritance, this isn’t an area you should be looking at.
Higher level of risk
“The stockmarket is risky, but it ebbs and flows and it’s been around for hundreds of years, and the risks are largely well known and well documented, but [with cryptocurrencies] you are taking on a much higher level of risk because you are talking about more volatile assets in terms of price and also the technical risk of obsolescence.”
He said the burgeoning number of cryptocurrencies meant there would inevitably be winners and losers, with some going to the wall.
“If you are happy to address those risks then by all means consider getting exposure to it, but you need to be a sophisticated investor with a high tolerance or risk to do that,” he added.