Learning more about Bitcoin

Clients

Tuesday 29 June 2021

Bitcoin has caused quite a stir recently. Should investors consider cryptocurrencies?

2:00 min

In April, Bitcoin, the most prominent representative of cryptocurrencies, reached values above USD60,000, but then fell back below USD35,000 – clearly, the price of Bitcoin is extremely volatile. In fact, it is similar for many other cryptocurrencies, suggesting that for investors, such investments are very risky. High risk means that investors must also expect a high risk premium for corresponding investments. And at this point, at the latest, it gets quite complicated.

Unlike, say, stocks, bonds or even gold, Bitcoin has no intrinsic value, nor does it offer investors future cash flows such as dividends in the case of stocks or interest in the case of bonds. With price fluctuations like those in the past, however, Bitcoin & Co would have to offer risk premiums that exceed those of stocks. But it seems extremely doubtful whether this can be guaranteed on a sustainable basis.

For this, the demand for such cryptocurrencies would have to grow continuously and ensure price increases that exceed the total return of stocks (i.e. price increases plus dividends) on a sustainable basis due to the high risk premium. However, the performance of stocks on average even exceeds nominal economic growth. It seems very questionable how the demand for Bitcoin & Co can generate such growth rates on a sustained basis. Thus, this risk profile does not seem very interesting for longterm oriented investors.

At the same time, short-term investors should also be aware of the risks. More than 40% of all Bitcoins, for example, are held by less than 0.01% of existing Bitcoin accounts. The activities of such large accounts – which are often referred to as whales – therefore have a considerable influence on short-term price developments. In addition, regulators around the world have recently been focusing on the cryptocurrency market, not least because of illegal activities such as money laundering and the like.

And one more thing: investors should also keep an eye on the climate impact in terms of sustainability. The generation of new Bitcoins, i.e. the mining process alone, consumes more energy than the whole of Sweden, for example – energy that would be better spent on sensible investments. This also applies to the enormous demand for IT components such as graphics cards, which are essential for the increasingly complex computing operations involved in mining.

However, this critical view of Bitcoin does not mean that all investments based on the blockchain technology underlying cryptocurrencies must be viewed with similar suspicion. On the contrary, blockchain technology has great innovation potential and will probably cause and accompany disruptive changes in many industries, especially in the financial industry – the extent of which would go beyond the scope of such a column. However, in order to be able to make appropriate investment decisions, a great deal of detailed and expert know-how is required.

Discover more in our June Unicredit Wealth Management Outlook: https://lnkd.in/dzGcAWy