What even is cryptocurrency? Some kind of dog coins and bits of coins or something. I don’t know so if you don’t either, we can find out together because this episode is the newbie’s guide to the cryptocurrency market.
What is Cryptocurrency?
A cryptocurrency is a form of digital money. It uses cryptography to create secure, digital transactions that are in theory, anonymous. That’s why it’s the preferred medium of payment when buying illegal things like drugs on the dark web. BitCoin was the first cryptocurrency, created in 2009 and is the most well-known.
How The Cryptocurrency Market Works
Cryptocurrency is a decentralized currency network. Users can pay for things with anonymity and without the need for a bank. The currency is generated by “mining.” A computer solves extremely complex math problems to generate the coins.
Once the coins are mined, they can be stored in digital wallets and sent from one wallet to another.
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Cryptocurrency is decentralized, there is no governing body tasked with its oversite. But the payments have to be secured in some way, otherwise, it’s too risky for either side of buy/sell equation to rely on. The security comes from the blockchain, a ledger of each transaction.
Each transaction is received by a mining node and it puts each one into a block, each block contains all the transactions that have happened in the last ten minute period. Each transaction uses encrypted validation to link to the next one forming a continuous chain.
It takes an enormous amount of energy for a computer to confirm each transaction by solving a very complex math equation. That expenditure is the proof that the transaction has been validated.
Why would anyone want to spend so much time and energy doing this? Because it’s very, very lucrative! The reward for mining a block is 12.5 BitCoins and currently, one coin is worth $6,007.01so a miner makes $75,087.63.
Thinking about mining? It’s not a hobbyist pursuit. You would spend way more on the kind of computer and the amount of electricity required to mine than you would make back. People pool resources to mine and then split the proceeds kind of like a lottery pool.
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The Purpose of Cryptocurrency
Why do people use cryptocurrency? We already have a well-established currency system in place.
It’s very secure. Cryptocurrency can’t be counterfeited and once sent, the transaction cannot be reversed like you can stop payment on a check or request a chargeback like you can with a credit card payment.
You are not risking all of the coins in your wallet when you make a payment, only the amount you send can be pulled from your account. When you use a credit or debit card to make a purchase, the entire amount of your credit limit on that card or all of the money in your bank account can be fraudulently charged.
The fees to use BitCoin are low compared to other forms of payment. The fees are set by time. If you want your transaction to be verified in 10 minutes, the fee is currently $2.09, it’s the same for 30 minutes and the fee for 60 minutes is $1.64. You can see how this is appealing to those sending large sums, you aren’t charged on a percentage of the amount being sent as you are with many conventional transactions.
You don’t need a bank account to use cryptocurrency, only an internet connection. Many people in the world do not have or have access to a bank account for a variety of reasons so cryptocurrency is an alternative open to them.
Cryptocurrency is universal which means it can be used internationally without the time and expense involved when a bank processes a transaction from one country to another. If you use a credit card abroad that has a foreign transaction fee, it can be as much as 3% of each transaction!
What is Money?
Why is a piece of paper or a coin accepted as currency? What if you want to pay for something using grains of rice? Well, if the person you want to pay accepts rice grains as payment, then those grains are a form of currency. It’s money because the two of you agreed that it was.
That’s why the bills and coins in our wallets are money. Because we all agree that they are. It’s a bit more complicated than that involving various government agencies but cryptocurrencies are currencies because users agree that they are.
Other Blockchain Applications
Blockchains have applications beyond cryptocurrency transactions. Currently, cloud storage is centralized. Users have to trust the storage providers with what they store in the cloud and we’ve seen examples of the information being hacked.
The blockchain will decentralize cloud storage which increases security. You could also rent out your extra storage the way you rent out your house on Airbnb.
Blockchains could be used to decrease identity theft. Banking and healthcare information are two areas where blockchains can protect personal information.
It seems archaic that we still have to go to a physical location to vote with a paper ballot. Why can’t we vote online? Because it would be too easy to hack into the system used to do it. Using blockchains would go a long way to securing the online voting process.
When there is a natural disaster, aid money is available but there is a lot of red tape involved in getting it to the right hands and navigating red tape takes time which is of the essence in a disaster. Blockchains could get the money “on the ground” instantly.
Imagine if the system was connected to a seismograph. The seismograph detects an earthquake in San Francisco. That would trigger the release of funds through the blockchain immediately without the need for the red tape human interference in the process requires.
Making Money with Cryptocurrency
There is no question that BitCoin has gained a tremendous amount of value since they were founded in January 2009. At their founding, they were worth nothing. Currently, they are worth more than $6,000. But BitCoin prices fluctuate wildly.
By February 2011, just over two years after they were created, each coin was worth $1. In July 2011, they were worth $31. In April 2013, the price soared to $266. A month later, it fell to $130.
Does LMM recommend investing in cryptocurrency? No, it’s too volatile. It does look like fun though so we give our blessing for you to play around with it IF you have a strong foundation of conventional investments and a fully funded emergency fund.
If you meet those requirements, you can take a small amount of money and invest in cryptocurrencies as a way to experiment and learn something new.
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