The rapid price swings of cryptocurrencies are prompting volatility-starved investors, to examine some ways of joining the biggest speculative cryptocurrency boom since the dotcom fever. The bitcoin bubble is the greatest asset price bubble in history, according to some american experts.
What is a cryptocurrency?
Cryptocurrencies, which are sometimes known as coins, are a 21st-century creation or a mixture of digital assets, as well as huge amounts of computing power and a network of services on which to store shared data.
Unlike the everyday money, cryptocurrencies are decentralized, which means that they are not issued or guaranteed by central banks and therefore all outside the purview of regulators.
The currencies are secured against hacking by cryptography, and they can also be converted into real-world money anonymously. This has also attracted some criminal elements, a point which is emphasized by regulators, as well as critics.
Apart from Bitcoin, some other cryptocurrencies have risen dramatically this year, which include Ethereum, Ripple, Litecoin, and Dash. They have all different characteristics, which permit the users to treat them very definitely.
That, in turn, partly underpins their appeal and valuations too. Bitcoin also sees itself as an alternative to central bank currency, while Ethereum is “crypto-fuel” which is not to be used a currency. Meanwhile, Ripple is software aimed at financial markets like foreign exchange.
Why have prices rallied so dramatically?
A mixture of scarcity, as well as enthusiasm and a big driver of such investor manias, the fear of missing out. A lot of investors come from China, using Japanese exchanges.
For instance, only a finite number of Bitcoin, 21m, can be created. There are about 16.7m in circulation, according to some data from Chainalysis, bringing the market capitalization of Bitcoin to about $167bn. Of those in circulation only about 37% have been spent or traded in the past year, while just about 22% are being held by “strategic investors,” and most of the rest have been lost.
At the same time, enthusiasts, as well as semi-institutional names and even some hedge funds have sought to invest in cryptocurrency boom projects. A lot of them have embraced so-called Initial Coin Offerings, a fundraising mechanism. The Bank of America Merrill Lynch is one research note this month, said:
We think that a large part of the potential value of Ethereum is its role as the money supply for ICO.
The roll in the price of Bitcoin has also prompted some of the biggest market infrastructure providers in the world, to explore ways in which customers can trade the market using more traditional investment instruments, like futures or contracts for difference.
Chicago-based exchanges CME Group and CBOE Global Markets are looking to list Bitcoin futures, a prospect which has helped lend legitimacy to Bitcoin and fuel recent price gains.
With some marketing fanfare, spread betting, as well as other online platforms have started offering crypto-derivatives to permit punters to buy, and sell the market.
Why are the risks associated with Bitcoin?
As comparisons abound with the Dutch tulip bubble of the 1600s, the national regulators have warned investors on the dangers surrounding a market that, to date has been unregulated, illiquid, as well as prone to big swings in price which severely limit its use as a currency for transactions.
Preston Byrne, a structured finance solicitor and founder of Monax, a blockchain software company said the following:
Bitcoins are concentrated in just a very few hands, who owns a Bitcoin is not defined, market manipulation is rife, and whether a transaction will settle or not is probabilistic, rather than legally certain and final.
Some higher prices also mean that holder of the currency, whether exchanges, as well as trading platforms or retail punter, are a more lucrative target for hackers. IG Group, the largest online trading platform in the world, suspended trading of some of its Bitcoin derivatives on Monday, citing the growing security risks which are connected with offering the products.
Like all of the asset classes, exiting the market is also a crucial factor. Some of the platforms and exchanges take the risk of trade on to their books and pay out some customers from their funds until they can sell the currency on the market. When a fraction of customers is sold, that could put some additional stress on the market intermediaries, which do not have any access to credit at banks.
According to Digconomist, there are also important real-world problems. For instance, the mining of Bitcoin this year had consumed more energy than the average electricity consumed annually by 159 nations.
Can cryptocurrencies enter the mainstream of economics?
Bulls argue that once when stability in price has been achieved, Bitcoin could feasibly be used as a currency to denominate a transaction, rather than just to be used for speculative gains.
Galvin Brown, the senior lecturer in financial economics at Manchester Metropolitan University and director of the cryptocurrency hedge fund Blockchain Capital, said:
The infrastructure is coming in to contract with (this shift). The process can maybe take between 10 and 15 days, and regulatory light-touch approval would also be a necessary part of this development.
But, critics also warn that Bitcoin cannot be used as a medium of exchange, or maybe to store of value in the manner of central bank-backed money.
A fintech lawyer at Ashurst, named Tara Waters, said:
Central banks can decide to adopt such technologies themselves, even though it is likely that they would adopt the technology to better fir existing systems, as well as norms.
Others also fear that the bubble could burst, causing upheaval to those that are involved in the market. Mr. Bryne said:
I do not think that Bitcoin has any business in the mainstream financial system. I am hearing anecdotal stories of people that are maxing out the credit card, as well as remortgaging their homes buy Bitcoin. Banks are also looking at it how should mainly be focused on limiting their exposure.