YOU ARE JOINING US TODAY TO TALK ABOUT CRYPTOCURRENCIES. LET’S START WITH THE BASICS: WHAT ARE THEY?
A cryptocurrency is a digital or virtual currency that uses encryption to secure and verify transactions and control and track the creation of new units of the currency. These currencies exist entirely online – there is no cash version of them – and they are privately regulated and governed. Unlike national currencies, they are not circulated or backed by governments or central banks. As such, a cryptocurrency’s value entirely based on another person’s perception of value, similar to gold. Historically this has meant the value of privately launched currencies are very volatile.
To generate confidence in the security and value, and to prevent fraud and counterfeiting, the inventor of Bitcoin invented a system called blockchain. Essentially an online record, blockchain securely logs every transaction. Every time anyone buys or sells bitcoin, the transactions get permanently and unalterably noted. This technology is what has made Bitcoin, and other cryptocurrencies viable, at least in theory.
HOW, AND WHY, ARE BITCOINS USED?
Just like any other currency, cryptocurrencies are used as a means of exchange, as long as both parties have accounts. Supporters of these digital currencies note that they have commercial benefits since it is easier to use than government-issued currencies because there are no conversion costs. However, cryptocurrencies are regularly used for illicit or illegal transactions, or as a speculative investment.
BUT HOW SECURE IS IT REALLY? HAVEN’T WE HEARD ABOUT CRYPTOCURRENCY THEFT IN THE NEWS?
Great question. There have been a number of Bitcoin thefts since it was launched. Most recently, hackers stole $30 million from a South Korean Bitcoin exchange. In the wake of this and other thefts, digital currencies have shed $17 billion in value in recent days. Here is the thing about cryptocurrencies and blockchain – just because you log every transaction, it doesn’t mean you are safe from hacks. Remember, there is no such thing as a physical Bitcoin.
When you own Bitcoin, you actually own blockchain addresses – essentially long codes – which note how many units of the currency are at those addresses. You can store these addresses in a number of ways, but theft can occur if someone gains access to them. Once they have them, they can essentially launder them through other anonymous accounts.
ARE THESE CURRENCIES SOMETHING WE SHOULD CONSIDER INVESTING IN, EVEN WITH THE RISK?
Not in a million years. The problem with cryptocurrencies is that it is just a digital record. Nothing but faith in that record makes it worth anything. When you own a stock, you own a share of a company and its profits. If you own a bond, you have given a small loan to a company which they pay back with interest. These items have inherent value, even if the value fluctuates. Government-issued currencies, like the US dollar, are backed by “the full faith and credit” of the US government.
In contrast cryptocurrencies have no value beyond what someone will pay you for them. When you buy them, there is simply no guarantee they will be worth anything. They are just a bad idea. But don’t take it from me, take it from Warren Buffett, the greatest investor in history.
In January, during the Bitcoin bubble, he said he would never invest in Bitcoin or other cryptocurrencies and predicted the wildly popular assets would come crashing back to earth.
“I can say almost with certainty that cryptocurrencies will come to a bad end,” Buffett said. I agree completely, and I would advise everyone to steer clear of this trend.
Mellody Hobson is President of Ariel Investments, a Chicago-based money management firm that serves individual investors and retirement plans through its no-load mutual funds and separate accounts. Additionally, she is a regular financial contributor and analyst for CBS News.