By Chloe Lutts
Editor of Dick Davis Investment Digest
and Dick Davis Dividend Digest
Can This Cryptocurrency Protect You From the Fed?
Is it Time to Buy Bitcoins?
Security Issues of Bitcoins
Last month, the Department of Homeland Security seized bank
accounts belonging to Mt. Gox, the world's largest Bitcoin
The crime? Japan-based Mt. Gox and its U.S. subsidiary had
failed to register with the Federal government as a currency
exchanger or money transmitter, as required by U.S. law. Mt. Gox's
website, which allows users to exchange dollars and other currency
for Bitcoins and vice versa, is still up and running, although many
U.S.-based users now have trouble sending dollars to and from the
site (because Mt. Gox's account with a service customers used for
those transactions has been seized).
It seems pretty clear to me that Mt. Gox was in the wrong here,
and that the Feds were simply trying to enforce the law, not target
or weaken Bitcoin. But, the incident does underline the immaturity
of many elements of the Bitcoin system.
For those who are unfamiliar, here's how I described Bitcoins
when I first wrote about them in my Investment of the Week e-letter
in July 2011: "Bitcoins are an unregulated, digital currency.
What's attractive to many of the currency's users and investors is
its decentralization: Bitcoins are not issued, governed, regulated
or authorized by any central authority. Instead, the currency
system works as an online peer-to-peer network, with the peers
being everyone who uses Bitcoins. Tasks that would normally be
performed by a central bank are either distributed among the
network or managed by set algorithms."
At the time, one of our Investment Digest contributors had just
recommended buying Bitcoins as a defensive holding, alongside cash,
gold and silver, so I took a look at them as an investment. I
concluded that you might buy a few as a speculation, but that the
market was still immature, and recommended "keeping your retirement
savings denominated in a currency with a slightly longer-and less
volatile-history for now."
I also wrote: "Thanks to their rapidly growing popularity and
awareness, Bitcoins have appreciated in value by about 200,000% in
the past year alone. A year ago, you could buy a Bitcoin on one of
the online Bitcoin exchanges (Mt. Gox and TradeHill are the big
ones) for about $0.06. Today, Bitcoins trade hands for somewhere
between $16 and $17."
And today, almost two years later, one Bitcoin is worth about
$120! That's an excellent return.
But, I'm sticking by everything I wrote two years ago. Here's a
chart of Bitcoin's ascent from $17 to $120:
The huge spike in interest this spring was prompted by the idea
that Cyprus might levy a one-time tax on domestic bank accounts.
Bitcoin-to-dollar exchange rates soared as high as $230 per Bitcoin
as fears about the integrity of fiat currencies swirled.
A few speculators probably did quite well for themselves. But,
as a "safer" alternative to national currencies, I still don't
think Bitcoin is ready for prime time (if it will ever be).
Because while it's true that Bitcoin is free from manipulation
by governments and central banks, a digital-only cryptocurrency
comes with its own drawbacks.
The most obvious challenge-and so far the biggest bugaboo for
Bitcoin-is ensuring the security of the system for buying, selling,
converting, spending and storing the currency. In addition to its
trouble with regulators last week, Mt. Gox-where 60% to 80% of
Bitcoins change hands-experienced a serious security breach in June
2011, in which usernames, email addresses and encoded passwords
were leaked, and fraudulent trading temporarily drove the value of
a Bitcoin down to one cent.
Also in 2011, a Poland-based Bitcoin exchange lost access to its
own Bitcoin "wallet," making all its funds inaccessible. In March
2012, a security breach at the web host Linode led to the theft of
around 50,000 Bitcoins.
And one of the most vulnerable pieces of the Bitcoin
infrastructure, so far, has proven to be Bitcoin "wallet" services
that store unique strings of code proving which Bitcoins you own.
This information has to be stored somewhere, whether in a file on
your computer, on a physical piece of paper in your home safe, or
on the system of a third-party wallet service. The latter option
most resembles the bank accounts we're familiar with, but
unfortunately many wallet service providers have been plagued with
In the latest incident, just last month, a wallet service called
Instawallet shut down, saying its "database was fraudulently
accessed." The company is taking claims from wallet account holders
and says it will refund balances under 50 Bitcoins. In another
memorable event, a company called MyBitcoin abruptly became
inaccessible in July 2011 and either lost or absconded with the
majority of its users' deposits.
Bitcoin proponents point out that all of these incidents were
related to, and the fault of, third-party companies built up around
the Bitcoin system. For comparison, it's like if several banks
failed and the New York Stock Exchange faced a "flash crash,"
security breach and Federal investigation. None of those incidents
mean the dollar is an inherently unsafe place to store your
But, at the same time, having reliable, secure systems for
spending and storing our dollars is an integral part of what makes
the currency function. It might not be Bitcoin's fault that the
system built around it has security issues, but it still makes it
harder to use and trust the currency.
Plus, there's the exchange rate, which is still quite
At this point, I think of Bitcoins more like a speculative but
high-potential small-cap stock than an alternative store of value.
I might buy a few if the price drops to the low double digits
again-in fact, one of our Digest contributors, Unconventional
Wealth Editor Aaron Gentzler, recently wrote:
"I view Bitcoins as a responsible speculation at $30. This
means, at that price, you might choose to buy with $500 or so. You
get great upside with tightly limited downside. At $31-$50, I see
it as a 'lottery ticket' speculation. This means, in that price
range, you might choose to buy with $500 you're prepared to never
I think his risk assessment is pretty sound, but would mention
one final factor: in the years since the introduction of Bitcoin,
numerous alternative cryptocurrencies have been introduced, some
tied to Bitcoin, some wholly independent. So while I suspect
decentralized digital currency is here to stay (in some capacity),
Bitcoin may not turn out to be the winner in the end. Even if you
manage not to lose your Bitcoins to a sham wallet service or
security breach, there is a chance the currency may become
Nevertheless, I think the digital currency revolution is firmly
here, and look forward to seeing where it takes us. And watching
the industry mature will only be more interesting with a few
Bitcoins riding on the outcome.
Wishing you success in your investing and beyond,
Editor of Dick Davis Dividend Digest
and Dick Davis Investment Digest