A confession. I have been involved in finance and investments for most of my professional life, and I still cannot say I fully understand what a Bitcoin is. This causes two problems. The first is my advice to investors has always been only to invest in something they understand, or the perceived level of risk will never fully cover the upside. The second is that ever so often Bitcoin, or other cryptocurrencies, start yelling louder than other investments, and the spotlight turns to them. Not understanding what is going on can leave me rather red-faced.
Cryptocurrencies join the expanding world of what is known as digital assets. These are assets that have a computer-based added value, and someone has the right to use that value-add. Many years ago, whilst in banking, we had an elderly client who would periodically like to check her balance. The clerk would print out her balance but she was never satisfied. She asked to see her money. The clerk showed her the actual computer screen, but this still did not placate her. She was only happy when she was taken to the bank’s safe, shown a pile of notes, and told it was hers.
Are our bank accounts digital assets? Is a $100 bill promising to pay the bearer $100 a digital asset? When we buy gold in our portfolio knowing that there is not enough physical gold to hand to all the note-holders, is it a digital asset? In short – is a digital asset a relative or absolute term?
So how do old-timers like me grasp the concept of digital assets? If I limit myself to cryptocurrencies, it is going to be an uphill climb, as there is a vast hiatus between them and the world of traditional currencies. But there are digital assets that can easily be translated into the language I know of traditional assets.
Just over 100 years ago, Jack Cohen had a stall in a market in the East End of London. He profited just £1 on his first day of trade, 25% on sales. Four years later he took that accrued profit and bought a shipment of tea from T.E Stockwell. Along with the tea, he took the first three letters of his supplier’s name, added two of his own, and Tesco was born. 100 years later no-one would argue that TESCO is an asset, a business with an extensive chain of stores and products, that manufactures and sells, creating vast profits.
Imagine Jack Cohen would have decided that the East end of London is cold and rainy and he prefers to stay indoors. And he discovered an indoor market place, which people can buy from without having to put on their galoshes. So he bought his produce from online suppliers and opened his stall at the market of Amazon – a global marketplace – to people walking around the digital East end market. It is basically the same play, that same vast corporate beast called Tesco, creating a business with (digital) stores that produce and sell, creating vast profits, but it is now a digital asset.
Cryptocurrencies can be understood in much the same way. When we used to go on holiday, we needed to buy the currency of the country of destination or we would not be able to pay the cabby. Countries have international trade. With more trade turning digital and online through E-commerce, more people claim that that will be the currency of digital trade. When people have less faith in their own economies, they have less faith in their currency which is the symbol of the economy, and they turn to an alternative. The latest figures of the US economy, the stimulus payments creating inflation scare, and low federal interest rates reducing currency demand, have all reduced the demand for the US dollar and pushed investors towards the alternative tradable currency.
The major criticism of cryptocurrency investment voiced is that whereas a country has assets backing its currency, digital currencies do not. I cannot argue this point. However, very few currency traders actually trade on basis of long-term economic stability. Currency trading is traditionally a speculative play. Crypto-trading differs not.
Dear investors, I can understand people have F.O.M.O when seeing Bitcoin top $30k. Digital assets seem to be the future, meaning some of our traditional investments are the past. By all means, find digital assets to invest in, but only those that you fully comprehend.