If you follow the financial markets, chances are you’ve heard of bitcoins by now. You might be wondering if bitcoins are a worthwhile investment, or even a legitimate form of currency. But before you make any adjustments to your portfolio, or dish out cash for this digital currency, you need to understand the dangers behind this new digital currency.
What is a bitcoin?
Bitcoins are a form of digital currency, or cryptocurrency. Bitcoins can be used as a peer-to-peer payment system, using cryptography to control the creation and transfer of money. The US Treasury considers bitcoins to be a decentralized currency because the system isn’t controlled by a single repository. However, you should be aware that there are a few issues associated with using and investing in bitcoins.
Increased Chance of Theft
The entire value of bitcoin is stored virtually, meaning that your finances are only as secure as your computer. An unregulated form of currency traded online is the perfect opening for hackers and scammers. In fact, many leaders in the bitcoin industry have been previously charged with fraud. In March 2014, Bitcoin startup Flexcoin announced that it would be shutting down following the theft of 896 bitcoins from its servers, worth close to $620,000 at current exchange rates. The still vulnerability of the digital currency makes it a risky asset and investment.
Because of the murky nature of the virtual currency, thieves can be hard to find and even verify. But the increasing stream of events shows how quickly con artists can take advantage of new forms of investing and how slow the authorities can be in responding to emerging financial risks.
Silk Road, the world’s largest online black market
The largest online black market, Silk Road, which organized itself in the online sale of weapons, drugs, and other illegal items used bitcoins as the primary means of sales and purchase. Users had to convert their money into bitcoins to anonymously purchase things from the site. In October of 2013, the FBI was able to find weaknesses in the the security of both the bitcoins being used and the Silk Road website. This allowed them to hack the site, act as a site administrator and take down all the servers. During this take down they were also able to identify and arrest the people behind it and seize over $4 million worth of bitcoins.
Bitcoins have a Lack of Regulation
Because bitcoins are not controlled by a financial institutions, it is not subject to any regulation. Not only does this mean that the value of bitcoin can be extremely volatile, it also means bitcoin can be used anonymously for illegal purposes.
Part of the problem is that government and financial regulation agencies haven’t yet agreed on how to classify Bitcoins. The SEC (Securities and Exchange Commission) has the authority to regulate securities, like stocks, in the United States. This allowed the SEC to punish Bitcoin Ponzi schemes because the agreement between the swindler and the victims was considered a security. The agency has not determined whether Bitcoin itself can be categorized as a security, making it hard for it to crack down on trading fraud.
The bottom line is that bitcoins are still a work in progress. While they may be the future of virtual monetary transactions, the jury is still out as to whether they will become stable and secure enough to merit investing in them.