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Our Two Cents on Bitcoin Thumbnail

Our Two Cents on Bitcoin

Let’s start out with a disclaimer: we do not consider ourselves experts on cryptocurrency (or blockchain technology).  At the same time it is our responsibility as advisors to understand enough to identify potential pitfalls and/or opportunities, so we offer this opinion.  Our primary goal in writing this short piece is to cut through the noise and provide some decision logic.  We welcome any feedback, questions, or expertise you might offer this discussion.  This paper focuses on bitcoin, presently the dominant and most widely discussed cryptocurrency, but our comments generally apply to all cryptocurrencies.

Why the increased interest in bitcoin?  FOMO has reached increasingly high levels as it relates to bitcoin.  In just the last few weeks, we have seen Tesla announce that it purchased $1.5B of bitcoin, and that it expects to soon accept bitcoin as a form of customer payment.  BNY Mellon, a custodian like Schwab or Fidelity, will soon hold, transfer, and issue bitcoin for its asset management clients.  In short, all of these announcements help increase the belief bitcoin is becoming more mainstream and accepted.

Then there is the simple fact that the price of a bitcoin has increased at breakneck speed from year-end 2018 ($3,742) to year-end 2019 ($7,193) to year-end 2020 ($29,001), and as of February 18, 2021 is priced over $50,000) (source: Yahoo! Finance).

Even with its increased price and growing acceptance, there are still many questions that need to be answered.

Is bitcoin an investment or a currency?  Well, bitcoin is a type of cryptocurrency so let’s start by classifying it as a currency.  In theory, an advantage of using bitcoin as a medium of exchange is that, as a digital currency, it is global in nature.  You don’t have to carry around a physical wallet with physical currency.  At the same time, bitcoin is decentralized from the traditional banking system, meaning there is no central bank or government authority that controls the value of bitcoin (this can be seen as both a negative and positive attribute).

With a traditional currency, like the US Dollar, its value is relative to other currencies like the Euro or Yen.  To date, we really haven’t seen bitcoin referenced or measured in this way.  In addition, bitcoin has had much more volatility, especially as of late, than we would expect to see in a traditional currency.

So is bitcoin an investment?  If we think about stocks and bonds as investments, we know, at a minimum, there is a framework for how to value them.  With bitcoin, it does not appear to be clear that its price is driven by economic fundamentals, making it very difficult, if not impossible, to apply a valuation to it. 

What are some other challenges with bitcoin?  As we stated earlier, bitcoin is not created or controlled by any government or monetary authority.  Therefore, in the US, the US government nor our central bank are providing regulation over bitcoin.  The SEC, which regulates the security industry, does not view bitcoin as a security (they view it as a payment mechanism and store of value) and therefore does not provide regulation over bitcoin either.

Maybe not surprisingly, there is a dark side that comes with the unregulated nature of bitcoin.  It has been reported that bitcoin is being used for illegal activities including the drug trade and ransomware attacks, with online users looking to hide their identity (in all fairness, there is an illegal activity associated with traditional currency too, including the drug trade and money laundering as easy examples).

Another downside of using bitcoin for transactions is taxes.  The IRS currently views bitcoin as property (and not a currency), therefore any sale using bitcoin is subject to capital gains taxes.

Overall, while there has been increasing interest in bitcoin we recommend steering clear of it and other cryptocurrencies at this time.  Because of the challenges in rationalizing a valuation framework, its volatility and lack of regulation, we view bitcoin as more of speculation than pure investment.  For investors that understand bitcoin better or simply “want a piece of the action,” it may be acceptable to allocate a nominal amount that would not compromise their ability to attain their financial goals if the lost it, similar to our views on other non-diversified investments.

We recognize our view may turn out to be naïve or cynical, but we are willing to be wrong at the present time.  Of course, it will be something we continue to follow and monitor.

This material is intended for educational and informational purposes only. It is not intended to provide specific advice or recommendations for any individual. Additionally, you should consult with your Financial Advisor, Tax Advisor, or Attorney on your specific situation.  The views expressed in the material are that of the author and do not necessarily reflect those of any market, regulatory body, State or Federal Agency, or Association.  All efforts have been made to report or share true and accurate information.  However, the information may become materially outdated or otherwise rendered incorrect due to subsequent new research or other changes, without notice. The author nor the firm are able to always verify the content from third party sources. For additional information about the firm, please visit the MAS Website at https://www.mas.gov.sg/  and the SEC Website at www.adviserinfo.sec.gov.  For a copy of the firm's ADV Part 2 Brochure, please contact us at info@avriowealth.com