Get $10 Free Bitcoin Claim

The Changing Basis of Money: Cryptocurrency and Investment Strategy

The Changing Basis of Money: Cryptocurrency and Investment Strategy
Written by Jon Gulson @jongulson
Posted 06 July 2017

The risk to return relationship of traditional investments is now being turned on its head. Logic suggests chasing returns in the legacy financial markets could become increasingly difficult and volatile.

Cryptocurrency is like any investment: it should only be made in proportion to understanding. With this in mind, consideration should be given to where cryptocurrency came from? It links with how investment markets have changed in nature since the financial crisis of 2007-2008.

Why is Investment Strategy Changing?
Traditional investment strategy works on the trade-off between risk and return: the greater the risks, the greater the potential for returns or losses. So investment strategy will usually suggest diversification between different asset classes to spread risk.

A simplistic way of representing asset allocation can be done with an investment pyramid. 

The base of the pyramid is safe with gradual growth, including traditional lower risk investments like cash deposits, government bonds and fixed-interest investments. 

As we go toward the tip, risk increases to include investments such as corporate bonds, blue chip shares, property, investment funds and then higher risks vehicles such as penny shares, derivate products, commodities or foreign exchange trading at the top.

The Changing Basis of Money
Since the financial crisis of 2007-2008, we have experienced historically low interest rates in money. Acronyms like zirp (zero interest rates) or nirp (negative interest rates) abound as central banks encourage stimulus into the economy to provoke demand so money isn’t left on account and instead circulated to buy goods and services and assist growth.

The problem is the disincentive to saving. Old fashioned virtues of thrift now defy logic, especially when factoring in the rate of inflation and costs of living.

The consequence is it no longer makes sense to keep a portion of a low risk portfolio in cash for relatively low return, since there is effectively no return or a negative return on cash.

This means the investor has to consider higher risks just to achieve any return. This has never happened before.

Which coincides with central bank asset buying programmes and money printing programmes inflating asset prices in government bonds, equites and property. Stock markets are at all-time highs with property becoming increasingly unaffordable for its prime purpose of habitation. As a result, normal asset allocation is becoming debased.

Welcome to Cryptocurrency
The first cryptocurrency was bitcoin, announced to the world in 2008 by its creator Satoshi Nakamoto. This was a time where markets were dealing with a financial crisis, bought about from the exuberance of a money for nothing culture amongst the investment community. This has been chronicled in popular culture by films like The Big Short and Margin Call.

One of the underlaying features of bitcoin is its peer-to-peer payment network (the blockchain). This means bitcoin is not determined by trusted third parties. And since the financial crisis; markets and economies are still struggling to achieve meaningful productivity.

Is the trustless feature of blockchain technology the key component to solving this problem?

Proof of Work, Time and Value
The bitcoin blockchain is proof of work. This means it requires processing time for complex cryptographic computations to be performed, which itself incurs a cost (known as the mining process).

This means proof of work becomes a computer coded representation of wealth given the energy exerted. This is why the bitcoin blockchain works on a distributed trustless consensus, creating trustless money.

The bitcoin blockchain through its proof of work system, is creating energy proofed units of value (bitcoin) verifiable on its public ledger (the blockchain) so they cannot be manipulated, rigged or inflated in the way other markets such as gold, silver and LIBOR have been. 

So in understanding cryptocurrencies in context with other investments, consider how cryptocurrency has become a new form of money and store of wealth in a time where traditional investment orthodoxies are being challenged.

Written by Jon Gulson @jongulson
Posted 06 July 2017
Don't miss a single story!
Sign up below for our free, spam-free newsletter.

Please share this article to keep us hydrated