Investment Classes: Cryptocurrency

Ok so you are a savvy businessman, and I trust that you are….you probably are a real computer geek, after-all the backbone of commerce in the twenty-first century is computers. Google the money supply and you will find out that the vast majority of dollars in existence are of the digital persuasion; ones and zeros in the e-ledger of some chartered bank.Since your finger is on the pulse, you have, at the very least, heard of Bitcoin. If you are a real hard-core geek, you are already contemplating setting up an ASIC mining rig if the numbers work out in your favour. But unfortunately the numbers will not work out in your favour, because there are factories in China which house tens of thousands of dedicated rigs and you will never be able to compete…

But perhaps you are not quite so informed; so I’ll back it way up to the basics. Crypto-currencies are built off of two important technologies, the first not surprisingly is Cryptographic Hashing(hence the name), the second is Distributed Blockchain.

Cryptography, in the modern computer-related sense is simply a way of coding data with an extremely stong password. The password is made up of two keys; usually long string of alphanumeric gibberish(hexidecimal numbers); one public, and one private. These two keys are either side of a very complex mathematical equation. The public key is essentially the question, and the private key is the answer to that question. The answer cannot be easily arrived at just by knowing the question, but if you have both keys it is a simple matter to check if that answer belongs to that question. 256-bit encryption(the current standard) is not unbreakable, however. The very nature of crypto-coin technology depends on it. It simply takes guesses at the answer if the question is known, trillions of guesses actually. so many guesses that computers would take years of running thousands of guesses a second to happen across the correct guess.

I hope I haven’t lost you all yet…you don’t really need to know all of the ins and outs of encryption algorithms, you can trust the fact that these passwords are very unlikely to be cracked. All the accounts and transactions on any crypto-currency are secured by cryptography. And the system that allows these accounts and transactions to be secured is the next piece, Distributed Blockchain…

Maybe you have heard the term Blockchain before, and it wouldn’t surprise me if you had. The Blockchain is nothing more than a very large data-file that is separated into blocks of a specified size, that are linked together in chronological order. The blocks on the chain contain transaction and account balance information. Instead of being stored on some bank’s server the data-file is stored in thousands of places across a network. For the most part, these are the computers of regular users, although many of the nodes on the network belong to miners. Miners are essentially the transaction processors. They connect their computers to the network and use software to submit those password guesses that I was talking about earlier.

When a new block of transactions needs to be added to the chain, the block needs to be checked and verified. The pool of miners is given a cryptographic key and they submit their trillions of guesses. The computer that gets lucky enough to guess the right answer gets rewarded with some newly minted coins and the block is broadcast as confirmed to the rest of the network. This is how new coins are created, not by some central-banker making a loan of non-extant “dollars” to some government or investment bank(which is how our current fiat system works). New crypto-coins are generated solely from work put into the system.

That is a lot of information to digest, so I will try to simplify it even further. The Blockchain is the master account ledger, it is stored across the network, secured by cryptography, and verified by miners, who are rewarded with new coins…

So maybe you get it, maybe you don’t, but “how can I make money from all of this?” is probably what you really want to know. There are, in-theory three ways. You can mine your own coins, but you should know by now that such activity amounts to a one-in-trillions long shot and costs real world money in the form of computers, internet service and power, others have long ago corporatized this one-time hobby and you are most likely throwing your money down the drain. So that leaves the two feasible strategies:

  1. Good ol’ fashioned Buy and Hold. Buy low and wait for the price to go up. Many millionaires have been made in the last 7 years when Bitcoin has gone from essentially worthless to over $1000  and back down to $200 and back up to the current $650 or so. Of course you generally have to get in on the ground floor and have a crystal ball to know which coins are going to the moon. And there is always the problem of exit strategies. The most infamous case study is the poor schlep who thought that it was great that Papa Johns accepted bitcoins and ordered a couple of pizzas paying thousands of bitcoins for a home-delivered feast. I am surprised that poor sap didn’t commit suicide just a few years later when those bitcoins he spent would have been worth millions of dollars.
  2. Trading. There are several online markets that deal in crytpo, you open an account and try the old buy low and sell high thing. These markets function much like traditional equity or commodity exchanges. One can take advantage of the swings between varying currencies to profit like a traditional forex trader. But beware you can easily lose your shirt, the markets are highly volatile and many currencies and exchanges are never more than a hack away from total ruin(google Mt. Gox or The DAO for some hard lessons)

I personally hold 5 crypto currencies in my portfolio for varying reasons:

  1. Bitcoin, the granddaddy of all crypto stable(relatively) and valuable.
  2. Dash, second generation coin with a focus on privacy.
  3. Litecoin, second-to-market coin, well-established
  4. Peercoin, proof-of-stake coin allows you to earn 1% on banked coin.
  5. Dogecoin, fun coin started as a joke but very popular and stable.

Heck maybe you are already down with these coins, and you like my posts you can always send a few satoshis my way, my donation wallet addresses are in the sidebar.

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