Everywhere you see these days, people are talking about cryptocurrency. Chances are even if you’ve been under a rock for the past, you’ve likely heard of at least one cryptocurrency coin (Dogecoin ring a bell?). Whether you’re a seasoned investor or a pimple face teenager you’ve likely asked a question about what is it and how do you get involved. Well today we are going to talk about how to get started.
First thing first, lets define what cryptocurrency is. If you’re learning anything for the first time, start with the definition. According to Investopedia, “cryptocurrency is a digital [currency] that is secured by cryptography, which makes it nearly impossible to counterfeit or double-spend”. Now what does this actually mean? In order to really understand what this means, you have to understand what is “money” or currency?
What is Money?
Money in its definition is a medium of exchange. Meaning, I think something is worth $XX amount of dollars so I would like to exchange that item with someone else for that money. In everything that we do, we assign a value to it. Money is the physical representation of that value. This medium of exchange was more efficient than the previously used barter system. However over time the allure of “money” specifically the U.S. dollar has had some issues.
The value of the U.S. dollar was tied to value of gold aka the Gold standard. However “on April 20, [1933] President Roosevelt issued a proclamation that formally suspended the gold standard.” Since then, its effectively been the wild west with regards to money. The government has the ability to increase or decrease the monetary supple based upon the economy at large. This isn’t exactly a great thing as these changes lead to inflation, deflation, etc. As a result the purchasing power of a $1 today isn’t what it was 50 years ago.
This delicate nature of our financial system was put on full display in 2008 at the height of the financial crisis. If you need a primer (albeit a dramatic one) and you love movies on this check out The Big Short, Margin Call, or Too Big To Fail.
It all started with Bitcoin
So now its 2008, everyone’s stock portfolio is crashing, real estate prices are upside down, and people can’t retire. Then something interesting happens, a mysterious person by the name of Satoshi Nakamoto, publishes a white paper on the internet, describing a peer-to-peer electronic cash less system, called Bitcoin. This my friends is where cryptocurrency gets its origins.
I’ve written about Bitcoin before and so I won’t go into the details here but if you need a refresher check out my earlier writing.
The importance of Bitcoin is it introduced a concept called decentralized finance (or DeFi) while theorizing the concept of Blockchain technology.
Now how did we 13 years get from the concept of Bitcoin to well over 4000 cryptocurrencies in circulation according to investopedia? Thats a great question which again is brought back to the original concepts introduced by Bitcoin.
Blockchain technology is based upon distributed or a decentralized network design.
Meaning its decentralized, i.e. no one node controls the decisions and/or distributed using a ledger system to serves as the record keeper for all transactions on the network. This is important because every node receives the same exact information in every transaction. This is in direct conflict with the current design and structure of the U.S. financial system which is based upon the hub and spook concept (Meaning decision are made from centralized source i.e. Federal Reserve System). Because of this distributed system, decisions (transactions) have the ability to be made in real time as opposed to the lag in our current financial system.
Now cryptocurrency is the asset whose records are kept on the blockchain. Additionally some have a cap on the total amount that will ever be in circulation. This introduces the concept of scarcity which adds additional value. So instead of keeping your money in a bank for “safe” keeping, you have the ability to become your own bank and cut out the middleman, while retaining the purchasing power of your money. This is a huge concept! I’ve always been enamored with banks, largely because I grew up poor and banks are where money was stored. Cryptocurrency completely changes that.
To become your own bank you have to have access to the blockchain network i.e. you need to own a digital currency. Now Bitcoin’s original purpose was to function as electronic cash, however we know today, as evidenced by the infamous Bitcoin Pizza transaction, that isn’t necessarily how the market (i.e. public) wants to use Bitcoin. The one area where it truly lacks is the ability to build on top of the network. That’s where Ethereum came in.
In 2013, a gentleman by the name of Vitalik Buterin proposed a concept of a decentralized, open source, blockchain network, with what he described as smart-contract functionality. That network, which he called Ethereum, would be powered by ETH which serves as the digital currency to “buy” processing/transaction time on the network. If Bitcoin proved the concept of cryptocurrency, Ethereum has been the catalyst of decentralized finance.
Think of Ethereum as a computer network or the actual infrastructure of the world wide web. The network provided the ability to create decentralized applications (dapps). Since going live in 2015, the network now has over 3000 dapps running on it. Thats why it was the catalyst of decentralized finance. And a lot of the currency you see today is built on top of the network or is adjacently related.
Okay lets do a quick recap, Bitcoin is not electronic cash, and more functions as an investment or for some a store of value. Ethereum, more specifically ETH (remember that is the currency) powers the Ethereum network which allows for decentralized application development.
Early on it was difficult (still relatively is today) to purchase Bitcoin or other cryptocurrency. To do so you needed some technical know how and had to be willing to risk your money being lost to fraudulent crypto exchanges. For instance, Mt. Gox, which “by 2013, the Japan-based exchange was handling 70 percent of all bitcoin trades worldwide, but collapsed in 2014 after it was revealed that it had lost 744,408 of its customers’ bitcoins and 100,000 of its own bitcoins, amounting to the loss of approximately 7% of all bitcoins at the time.” Now that wasn’t a shining moment for Bitcoin and yes there have been others like it but largely Bitcoin has been extremely secure and the network has not been hacked.
Today there are a number of cryptocurrency exchanges to purchase Bitcoin or other cryptocurrencies like ETH (or even dogecoin). Those exchanges (think Coinbase, Gemini, Binance, FTX) are similar to other platforms like Fidelity, Vanguard, etc. These provide a medium to purchase and research your desired cryptocurrency. However there are some things you need to know.
Specifically you have to understand whether or not you truly own the currency. Cryptocurrency was designed for you to be the custodian. Meaning you hold the asset in a location where you desire. In practicality this is distressing to some and desired by others. So today you have several options.
The most secure of those options are purchasing a cryptocurrency then “holding” it off the network in a secure cold storage wallet. These wallets are similar in size and resemble your average USB drive (example Ledger). However they are protected by a security system (cryptography) which is designed only for the owner (or someone with the right phrase) to access. Which means if you forget your phrase, lose the wallet, or drop it in the ocean (ex. Dave Portnoy), wave goodbye to your money. This can be scary for some and carries a lot of responsibility. However it is the safest.
Exchanges also provide digital wallets to hold your cryptocurrency. This is the same in principle as purchasing a stock, ETF, etc on Fidelity. After you sign-up for the exchange and receive an account, your investment/purchase is delivered to your digital wallet and you can see it and watch the price changes. This is not as secure. While the exchange may have great security practices, they can run the risk of being hacked. Cryptocurrency is designed not to be regulated (again decentralized) so if you lose your money housed on the exchange, there is no one you can complain to.
So if you’re money is housed on the exchange, that is hot storage.
The unique thing about crypto wallets is that it provides a specific address which can be used to “send” currency to that wallet (think personal bank). Those addresses (i.e. keys) are advertised in public. That public key is combined with your private key to verify the identity the contents of what is being sent and by whom. Now a hardware wallet also provides additional security by its protection via physical security. This is what is means to own your keys. This is the purest form of cryptocurrency and its designed intent. For you to control your money and be the bank (your hardware wallet).
As mentioned before, it was difficult to buy cryptocurrency early on. Recently some of that complexity has been removed, because of platforms like Square’s CashApp and everyone’s favorite, Robinhood. These platforms provide access to cryptocurrencies but you don’t own the keys. Meaning you cannot take your cryptocurrency off of the exchange if you wanted to. This isn’t the point of cryptocurrency, but these platforms serve a purpose because they lower the technical barrier and can provide cryptocurrency exposure.
Now how do you get started today? Well first step is getting your feet wet. The best recommendation is to start with Bitcoin and get comfortable with cryptocurrency. It can be extremely volatile and not everyone can handle the pricing movements.
The next step is to gain access to one of the cryptocurrency exchanges. Given Coinbase’s recent IPO, its likely to be the logical choice. However not every exchange carries all of cryptocurrencies offerings. Thus it is likely you’ll need multiple exchanges if you’re really trying to get exposure to cryptocurrency. If you plan on buying and holding, you’ll likely want a hardware wallet. Ledger is a common wallet to use however please note it is not compatible with all cryptocurrency offerings.
With regards to cryptocurrency offerings, it is EXTREMELY important to do your own research. There are a number of cryptocurrency coins which have been exposed as either scams or jokes. If you put your money into these, there is a chance (high chance) that you may lose your shirt. Cryptocurrency is a high risk asset class. Don’t expose more of your net-worth than you are comfortable losing. For some that is 1% and for others it maybe up to 90%. Personally I don’t want more than 10% exposure (I am nowhere near that currently).
If you want to dive in and learn more about cryptocurrency, DeFi, etc check out InteraxisAcademy.
As always if you have questions or concerns regarding creating an emergency fund, investing, real estate, insurance, or planning for the future, don’t be afraid to speak with qualified financial advisor. Smart Asset has a great tool to find an advisor in your area or feel free to email me (contact@surgifi.com) to help you on your path to financial independence.
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