Bitcoin – Is it time to buy?

Bitcoin - Should You Get In?

Bitcoin – Should You Get In?

Bitcoin and cryptocurrencies are receiving significant attention lately. The collapse of FTX and arrest of former CEO, Sam Bankman-Fried, has raised concerns about the safety of invested funds. In addition, the latest Bitcoin price is $16,914.10 as of 12/11/2022. That is down from $64,400 roughly a year before.

It's one thing to experience a significant price decline in any investment. It's another to have an exchange collapse and file for bankruptcy owing about $3.1 billion. If the major crash of most crypto currencies isn't enough to scare off investors, maybe the collapse of FTX is.

I've noticed an increase in emails and calls from clients wondering if this could spill over to more traditional financial markets. Others are calling asking if this is a time to buy.

Before we go further, let's examine some key issues related to Bitcoin and cryptocurrencies. First, I'll provide background information. After that, we'll address whether you should get in.

What is Bitcoin?

Bitcoin is one of approximately 4,000 cryptocurrencies in existence thought to be invented by Satoshi Nakamoto, a pseudonym for the person or group who created the software.

It was the first cryptocurrency and consequently, it is the most popular in the crypto space. Cryptocurrency is a digital asset. Encryption secures the digital assets on the networks on which they reside. Blockchain technology is a key component of cryptocurrencies.

Therefore, transactions validate on the network without middlemen. Intead of central banks, large computer networks hold the digital currency. As a result, cryptocurrency is outside the authority of central banks and governments.

Despite the word coin, it only exists electronically on computer networks. Like traditional currencies, you have to exchange dollars to Bitcoin. Cryptocurrency exchanges like CoinBase, Binance, and Kraken will handle the transactions.

Bitcoin mining involves fast computers using large amounts of electricity. Miners receive cryptocurrency when the computers can solve increasingly complicated math problems. Bitcoin's energy consumption and crypto mining in general has been criticized as having negative environmental impacts. This is especially the case in light of concerns about climate change.

Most people don't have the expertise and resources to succesfully mine. Instead, many people trade dollars for digital currency and hope for the price to rise. Some businesses have begun accepting payments in digital currency. Moreover, many large financial institutions are beginning to create funds that invest in a wide variety of cryptocurrency. For example, instead of a mutual fund investing in stocks, it will invest in cryptocurrency.

Is It Time To Buy Bitcoin?

Bitcoin - Is It Time To Buy?

Bitcoin – Is It Time To Buy?

Prior to the collapse of the crypto market, many investors had FOMO or fear of missing out. Hype makes it difficult to stay focused. I have no doubt that many investors got in as a result and subsequently got burned.

Now, some are tempted to buy since prices have come crashing down. However, this is all against a backdrop of new concerns about safety, transparency, and trust.

Trading currencies is a risky business. Currency trading is done by the largest financial institutions with significant resources and even they aren't immune from trades gone wrong. Crypto is a whole new frontier. Without regulation, it's the Wild West.

Sticking to the fundamentals when allocating our funds is key. Therefore, we need to examine the following.

Firsst, determine your investment objective. In other words, are you looking for growth or income from your portfolio? Or, is your goal to preserve your capital and improve tax efficiency?

Secondly, you need to evaluate your tolerance for risk. That is to say, how comfortable are you seeing the value of your investment fluctuate?

Lastly, identifying your time horizon is a must. For example, when will you need the funds?

In short, specifying your investment objective, risk tolerance, and time horizon is the first step before making an investment of any kind. This is critical when planning your retirement.

Resisting the hype around any investment can be difficult. After all, everyone at work is talking about it. Every article you see online says you have to have it. Most importantly, email newsletters predicting financial armageddon seem to be endless. If you can step back and tune out the noise, you'll be in a better position to make sound investment decisions.

Improve Portfolio Diversification

Adding an alternative asset to a portfolio can improve diversification. For example, we can achieve diversification by investing in various stocks and bonds via mutual funds or ETFs. Rather than investing in one stock and one bond, you can increase diversification by investing in several stocks and bonds.

To clarify, diversication is the process of not putting all of your eggs into one basket. If you add another asset class like cryptocurrencies, you are creating more baskets for your eggs. Having said that, alternatives shouldn't account for more than 10% of your total portfolio. Alternative investments bring with them greater risk.

Is Bitcoin A Hedge Against Inflation?

Infation: 12-month percentage change - Consumer Price Index

Source: U.S. Bureau of Labor Statistics

As more and more dollars flooded the financial system in response to the pandemic, inflation has taken hold. Some have claimed the American Rescue Plan Act of 2021 caused our current bout of inflation. However, it's much more complicated than that.

As investors, we must remember that a certain level of inflation is actually a good thing. Without it, the value of assets wouldn't rise. Inflation becomes problematic when it gets out of control. The last time that happened was in the late 1970s.

The Federal Reserve has been aggressive in raising rates to get inflation under control and that has hurt both the bond and stock markets. Unfortunately, good medicine can often have side effects.

Many claim Bitcoin and other cryptocurrencies are a hedge against inflation. Based on crypto's dismal performance during this period of inflation, that claim appears to be unwarranted.

I acknowledge that crypto isn't subject government manipulation in the form of money printing like traditional currencies. However, that alone doesn't make it an inflation hedge and it certainly hasn't been the case so far.

Cybersecurity and Fraud Concerns

Unlike traditional financial institutions, there isn't much regulation. Some might see that as a positive. However, if a firm handling your Bitcoin goes bankrupt or fails, your assets could go down with it. Just look at the recent blow up of FTX and the resulting $3.1 billion bankruptcy.

What if your crypto goes missing in a security breach? Where do you go to file a claim? Unfortunately, you're likely on your own. Most traditional financial firms have certain protections in place for consumers.

For example, FDIC insurance protects your bank account deposits if your bank fails. Securities Investor Protection Corporation or SIPC protects your investments if your brokerage firm fails. To be sure, this protects you if the broker fails or goes bankrupt. It does not protect you if your investment drops in value or becomes worthless.

Proceed With Caution

There is no doubt the crash of Bitcoin and other cryptocurrencies present opportunities. I don't believe it's appropriate to be dismissive or fearful of these new currencies. Likewise, blindly investing money without careful study and planning is setting yourself up for failure.

Investing isn't gambling. Investing isn't speculation. You have worked hard for your money. Make investments based on your goals and your situation. Do your best to resist the fear of missing out. Try to tune out the noise and doom and gloom about the country's finances. Above all, never invest on emotion.

Do you have questions the Bitcoin and investing?

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