High volatility and risk: Who should invest in Bitcoin?

Eran Peleg is the Chief Strategist and Maor Levy is the Investment Manager at Clarity Capital

In the first part of the review we wrote about the historical background to the launch of Bitcoin, the oldest of the cryptocurrencies, and the basic vision that accompanies it. We explained how it works and presented the main arguments of Bitcoin opponents. Towards the end, we briefly referred to a number of other cryptocurrencies. In this second (and final) part, we will expand in more detail on Bitcoin as an investment asset, expand on a number of notable applications on the Etherium network, and briefly tell about a number of additional currencies.

Bitcoin as an investment asset

We noted that the adoption of Bitcoin as a means of payment has not, at least not so far, gained significant momentum. But, at the same time, the demand for Bitcoin as an investment asset is definitely growing. By comparison, Bitcoin’s average daily trading volume in the past year stands at about $ 47 billion compared to only about $ 6 billion in transfers and payments.

As a financial asset, similar to regular currencies (fiat), bitcoin is traded on a daily basis against the US dollar. Trading is done on dedicated exchanges like Binance, Coinbase and FTX. In order to expand the circle of investors in Bitcoin, financial instruments and investment funds have also emerged in recent years that allow Bitcoin (and other cryptocurrencies) to be exposed indirectly through the regular stock exchanges. Inevitably, two of the hottest investment areas of recent years have joined forces, and last October we were privileged to witness the first issue of an ETF (Exchange Traded Fund) that tracks the price of bitcoin. It should be noted that the ETF does not invest directly in bitcoin, Through futures contracts on Bitcoin, which could lead to gaps in the yields between the two assets over time.

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The table below shows the annual changes in the price of Bitcoin. It is important to note – something less noticeable in an annual look at the price – that throughout history there have been three times in which the value of Bitcoin has fallen by more than 80%. Even during 2021, when the yield currently totals 76%, there was a 50% drop in price between April and July.

2016 2017 2018 2019 2020 From the beginning of 2021
120% 1375% 74%- 95% 305% 76%

Despite the high volatility in the price of Bitcoin and the high correlation with risky assets, such as equities, in the short term, over long measurement periods, its correlation to stock market and bond fluctuations is low. But in light of the volatility and high risk inherent in the asset, investing in it is only suitable for an investor with a long investment horizon and a very high tolerance for risk / volatility – and even then, in the right dose.

Blockchain, etherium and other vegetables

Bitcoin is not the only currency that operates on blockchain technology. There are other cryptocurrencies written in an open source configuration based on this technology. The Ether currency and the Etherium platform are the most prominent of all – it enables the creation of distributed financial blockchain applications, writing smart contracts, creating NFTs, working with huge amounts of information while saving resources, in a more secure way, and more. Sounds good, but what does it actually mean? We’ll try to put things in order:

  1. Distributed Financial Blockchain Applications – The vision of the Decentralized Finance (DeFi) stream, as its name implies, is to decentralize the financial power currently in the hands of the banking system and create a “new economy” that will be more egalitarian. Examples of applications in the field of DeFi (Decentralized Finance) that have been gaining momentum in the past year: electronic payments, peer-to-peer loans (P2P), digital exchanges that allow you to trade and clear financial assets quickly and cheaply, etc.
  2. Smart Contracts – A digital contract distributed between two or more parties that is capable of performing certain actions automatically when one or more conditions are met. The contract is not changeable after it is written, secure, transparent and reliable. In the field of insurance, for example, smart contracts can be used to streamline the process of receiving payment and insurance event controls. The main disadvantage is that the terms defined in the contract are simple and operate in the form of “if – then”, if the flight is canceled – then you will get paid, but we know that most insurance contracts have many gray sub-clauses that are difficult to characterize binary.
  3. NFT – Non-Fungible Token – (Hebrew: Replaceable Token) A cryptographic protocol that represents a unique asset that is not interchangeable – unlike, for example, a bitcoin currency that is not unique and can be exchanged for another identical currency. The earliest use of NFT was in the field of digital art. Although by its very nature, the field of digital art allows for easy and fast duplication of the work and its distribution without permission on the Internet, NFT technology allows proof of the work’s originality and ownership.

Like Bitcoin, the Etherium network has a tradable digital currency called Ether (but better known as Etherium, like the platform). Due to the great flexibility and functionality of the Ethereum platform and the technological innovations on it that are only increasing, some consider Atherium a unique role in the evolving world of cryptocurrencies.

The scope of active assets in distributed financial applications (Photo: Maariv Online)

Additional currencies

Bitcoin and Etherium are the largest digital currencies in terms of market value, but behind them are other currencies worth over $ 50 billion each, such as Binance Coin, Tether, Solana and Cardano:

  • Tether – A currency that is considered Stablecoin, a currency that is backed by Fiat currency (dollar, euro, pound sterling, etc.), in this case by the US dollar. It was created to be a bridge between traditional fiat currencies and its value to the digital world. Of the currency (hence its name Stablecoin) in contrast to the cryptocurrencies known for their extreme price volatility.
  • Solana – Atherium’s biggest competitor, Solana is a blockchain platform with dedicated currency. It should be faster and cheaper than its big competitor and allow the crypto world to continue to grow. How much faster is the solo? It can process tens of thousands of transactions per second while its counterpart can process “only” 13 transactions per second.
  • Cardano – is also a blockchain platform with dedicated currency, but unlike others it operates on the basis of the PoS protocol (Proof of Stake) compared to its large counterparts that operate on the basis of the PoW protocol (Proof of Work). We will not go into the depths of the differences between the different protocols but we will note that the difference in configuration allows the platform to be much more efficient in terms of energy consumption. Its developers claim that it consumes less than one percent of the consumption of the blockchain platform on which Bitcoin is built.

In conclusion, Bitcoin is the father of cryptocurrencies, and it paved the way for blockchain technology, which in turn, enabled the development of other cryptocurrencies and various advanced applications. Without touching on the question of the current price of Bitcoin as a financial asset, it is certainly possible to estimate that the technological breakthrough it brought with it will bring about significant changes in many different areas in the future. The signs of this are already here.

By Editor

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