I’ve avoided discussions in general regarding Bitcoin given that I have not viewed Bitcoin as investable option for a long-term investor’s portfolio. Saying that, there has been a wave of interest, one might call a bubble, in Bitcoin. A year ago, Bitcoin was priced at approximately $1,150. In late December 2017, the price of Bitcoin topped at $19,206. Bitcoin is priced approximately at $9,950 as of the time of writing.
Given the speculative wave and interest, the following is a generalized discussion to help better understand Bitcoin. In reality, experts still can’t agree upon exactly what it is. Is it a currency, a commodity, or an asset? Generally speaking, Bitcoin is considered a cryptocurrency. There are approximately 1,500 cryptocurrencies currently in existence. Bitcoin is the largest and was established in 2009. While estimates very, especially with recent price fluctuations – the expected value of all cryptocurrencies is around $350 billion to $400 billion.
The technology behind Bitcoin and cryptocurrencies is called blockchain technology. This blockchain system essentially creates a digital, distributed ledger that is immutable and therefore has a permanent record and ultimately an audit trail. A new block is created when multiple nodes in the distributed network reach consensus and confirm that a transaction occurred.
Blockchain technology was created by integrating three technologies. First is the Peer-to-Peer network (P2P) system that allows the connections between nodes. Think Napster of the 1990s. Then there is the use of Public Key Infrastructure (PKI), which allows to enable a secure transaction between two untrusted partners using a public key (similar to a bank account) and a private key (your pin number). Lastly, there is the cryptographic hash technology which is what enables multiple nodes the ability to reach consensus in validating a new block.
Bitcoin miners are miners that create the nodes in the distributed network that complete computations, tasks that enable consensus across nodes. Once a computation is completed, a new bitcoin is unlocked. Bitcoins and other cryptocurrencies can be used to fund transactions including purchasing goods or services. Cryptocurrencies are however predominantly held as an investment by individual investors. While we don’t actively recommend owning Bitcoin or other cryptocurrencies, we believe it can be acceptable as a small speculative position, given that it is a new technology but that it is also a technology in search of a need. Consider that blockchain technology begins to complete other internet based technology services such as TCP/IP and SMTP protocols that allow communications across the internet. Blockchain technology now adds a financial transaction capabilities linking untrusted nodes directly versus using a traditional third party financial services firm.
The challenge is therefore not just the success of blockchain technology, but also which current cryptocurrency will survive if any compared to future generations of cryptocurrencies. Again, at this point we do not make any recommendations to own bitcoin and believe if at all suitable, only a small speculative position for more aggressive investors.