ARE CRYPTO CURRENCIES WORTH YOUR WHILE?

ARE CRYPTO CURRENCIES WORTH YOUR WHILE?

Ever since 2008, when bitcoin came to be, people the world over have been wondering whether crypto currencies are worth taking an interest in. By now, 15 eventful and volatile years later, the question has essentially answered itself: crypto currencies are here to stay, regardless of our opinion about them.

As a result, ignoring them equals ignoring one growing asset class in the market. Before carrying on, it’s worth defining the meaning of crypto currencies, of which there are thousands. What they have in common is to rely on an electronic decentralised payment system which does not need central banks or an exchange to work. Exchanges of digital values and goods are made directly between two individuals, with the oversight taken care of by the network itself, in a fashion akin to peer-to-peer oversight.

Why not stick to regular currencies?

That’s all fine and well, one may conclude, but what drives the unabating interest in crypto against

all the odds, aren’t regular currencies good enough? The problem is, ever since the convertibility of

paper money into gold was abandoned, which in the U.S. happened in 1971, the intrinsic value of money has not just crumbled, but also become a fuzzy subject, ruled by complex mechanisms that increasingly fail to reassure consumers. This unease has risen sharply in the past ten years, as central banks started embarking on ever-more adventurous and unorthodox schemes to prop up failing government policies, such as quantitative easing, thereby devaluing their own currencies. As a result, more and more people have been looking for alternative stores of value, and found them in

crypto currencies.

An idea whose time has come

It is worth recalling that, money as we know it has three functions: a medium of exchange, a measure of prices and a store of value. While crypto currencies often struggle to fulfil the first two in a satisfying way, it is on the last point that many investors have pinned their hopes, as conventional currencies are falling short. Going a bit further, some are fearful that a cashless society may pave the way for total surveillance, since every electronic transaction leaves a trail.

“Now that technology allows us to disintermediate governments from the creation of money, the genie is out of the bottle”

In several European countries, governments already limit the amount of money citizens can withdraw from banks in cash on any given day – a form of daily nationalisation of private assets. As all of these things are happening at a time when people have little trust in government and central banks, it is no wonder that they look for alternatives. Indeed, from a societal point of view, crypto currencies are an idea whose time has come. Now that technology allows us to disintermediate central authorities from the creation of money, the genie is out of the bottle.

What are the shortcomings?

On the other hand, crypto currencies, most notably bitcoin, come with their own shortcomings. High

volatility, price manipulations, data loss and outright data theft are but a few of their most obvious

vulnerabilities. Another raft of issues are technical problems, delays, and in some cases high transaction costs when attempting to use these currencies as a means of payment, apart from the extremely limited number of businesses that accept payments in crypto currencies at all.

“The individual who calculates the value of things in bitcoin still has to be born”

Finally, as a measure of value, the individual who routinely expresses the price of things in bitcoins

has yet to be born. Even as a store of value, the crypto currency sector is far from being mature and

transparent enough to claim its place among established asset classes, as shown by the drop in bitcoin’s value in 2022. So far, there doesn’t appear to be enough trust in these currencies to give

them a stable valuation.

Where do we go from here?

Crypto currencies are known for lacking consistent governance and regulation. Yet, it is the very absence of a central regulatory body that makes them appealing in the first place. As soon as governments try to regulate one cyber currency or one distributed ledger network, another unregulated one will spring up in its place. In my view, the likeliest way crypto currencies can work is complementary to established currencies, rather than as alternatives to them. We can have varying forms of money performing separate functions in different places, as long as there is a record of our mutual obligations.

“Where Karl Marx once argued that power lies with those who control the means of production, perhaps it really rests with those who control the means of production – of money”

Past economists such as Silvio Gsell and Friedrich Hayek have advocated the feasibility of private

currencies long before technology made their creation and their adoption as easy as it is today. In Austria, one such experiment in 1932 was deemed a great success in pulling a region out of recession, only for the central bank of the time to step in and put an end to what it saw as undue competition. In other words, the experiment was forcefully terminated because it had been too successful, thereby taking too much power away from the central bank. Where Karl Marx once argued that power lies with those who control the means of production, perhaps it really rests with

those who control the means of production – of money.

Although crypto currencies still represent a trivial fraction of all payments, this may change. They are particularly appealing in emerging economies that suffer from dysfunctional currencies, of which there are many. While a system of private currencies by no means guarantees price stability,

arguably the mere threat of competition from an alternative currency imposes market discipline on

any central bank. This may turn out to be crypto currencies’ best feature. Paraphrasing the economist Adam Smith, central banks may thus be forced to a “tolerable administration” of money.

How can retail investors invest in crypto currencies?

There are two main ways to participate in the crypto asset class. The most obvious is a directional

investment, i.e. a bet on the long-term appreciation of crypto currencies, of which the most prominent is bitcoin. In Switzerland, we are blessed with a rather advanced infrastructure for investing in crypto currencies, meaning that many banks and brokerages, including online brokers,

offer safe ways to buy and sell bitcoins. One handy way to do this is via a bitcoin certificate, i.e. an

easily tradeable security that mirrors the value of bitcoin and benefits from easy conversion into Swiss francs, without the problems concerning storage and safekeeping of bitcoin “wallets”. Another way is to invest in crypto is via a fund of crypto currencies. While these funds typically require higher minimum investments than bitcoin certificates, their advantage is that they invest in a whole range of crypto currencies, not just in bitcoin, and that they are actively managed, meaning

that their value can go up even if the value of any single crypto currency goes down.

Contrary to a bitcoin certificate, which passively follows the price of bitcoin up or down, the performance of actively managed crypto funds depends entirely on the expertise of its fund managers, therefore they are best suited for investors who know how to do their due diligence on

these funds, or have an intermediary who does it for them.

A few caveats

“Crypto currencies have no intrinsic value! They may as well go down to zero, and we will have nobody to blame for it! At least, regular currencies are to some extent a reflection of their countries’economies, thus the Swiss franc rests and falls with the strength of the Swiss economy and the Swiss central bank’s reserves, of which solid gold is one major component. The whole of Switzerland will never be worth nothing at all, so at least the Swiss franc has a natural bottom. And so does the US dollar, the euro, the Japanese yen, and so forth…but bitcoin has no country behind it, no central bank, nothing at all, all it has is a clever idea…”

The long-term case for crypto currencies

These are common, entirely legitimate and wholly pertinent doubts about crypto currencies. Yet,

they have equally legitimate answers:

1) It’s all fine and well to say that we don’t need new currencies because our existing ones work well enough, but aren’t we simplifying the world too much? Switzerland, the eurozone, the UK, the US and Japan represent just a tiny, affluent fraction of the world. Indeed, 99% of the world’s currencies could only dream of being as stable as these. Thus, for most of the world’s population, no matter how unstable and arbitrary the value of bitcoin may be, it’s still a lot better than their own national currencies. Just think of the Zimbabwe dollar, or of the Turkish lira, to get some perspective.

2) Even the two strongest currencies in the world, the Swiss franc and the Japanese yen, have been steadily losing a part of their value every single year of their existence. Over time, this constant loss of purchasing power amounts to an expropriation of citizens’ hard-earned assets by their own governments. If even the world’s strongest currencies suffer from relentless devaluation, no wonder people will never stop seeking alternatives, especially now that they exist in ever-increasing numbers.

3) The year 2022 has been a disaster for traditionally diversified equity and bond investmentportfolios. As a consequence, investors are increasingly looking for alternatives, and cryptocurrencies are one of them. Keeping five to ten percent ofone’s investment portfolio in crypto assets is no longer an exception – it’s becoming the norm.

4) Each crypto currency follows its own rules, but bitcoin’s main feature is that the number of

bitcoins in circulation is limited. Once the limit has been reached, that’s it – they can’t be

mined anymore, unlike regular currencies that can get printed by central banks ad infinitum,

causing permanent inflation. At the current rate, the limit for bitcoin will be reached as early

as next year. This fact alone, apart from any other consideration, sets bitcoin above national

currencies, and bodes well for its long-term appreciation.

ENRICO BORGER - Financial Writer & Investstment Specialist