Personal Finance

5 Big Advantages of Blockchain, and 1 Reason to Be Very Worried

Bicycle chains with binary code linked together to resemble blockchain.

In less than three weeks we'll turn the calendar on 2017, which for many investors probably turned out to be a pretty good year. But despite all three major stock indexes hitting dozens of new all-time highs, it's cryptocurrency gains that have stolen the show.

Since the year began, the aggregate market value of all virtual currencies combined has risen by about 1,800% to $336 billion. The two largest cryptocurrencies by market cap, bitcoin and Ethereum, have delivered gains to the tune of 1,000% and 5,500%, with the help of a little rounding. These are gains that investors may not see over the course of their entire lifetime, and it's happened in just over 11 months' time.

Bicycle chains with binary code linked together to resemble blockchain.

Image source: Getty Images.

What makes blockchain so special?

At the heart of the surge in cryptocurrencies is excitement surrounding blockchain technology, which is the foundation that virtual currencies are built upon. Blockchain is the digital and decentralized ledger technology that records all transactions without the need for a financial intermediary like a bank. It appears to offer five distinct advantages over existing payment facilitation networks that could make it a go-to technology for the financial services industry (and other industries) in the future.

Here are, in no particular order, five of the biggest advantages of blockchain technology.

1. Transparency

One of the prime reasons blockchain is intriguing to businesses is that this technology is almost always open source. That means other users or developers have the opportunity to modify it as they see fit. But what's most important about it being open source is that it makes altering logged data within a blockchain incredibly difficult. After all, if there are countless eyes on the network, someone is probably going to see that logged data has been altered. This makes blockchain a particularly secure technology.

2. Reduced transaction costs

As noted, blockchain allows peer-to-peer and business-to-business transactions to be completed without the need for a third party, which is often a bank. Since there's no middleman involvement tied to blockchain transactions, it means they can actually reduce costs to the user or businesses over time.

A smartphone-initiated money transfer showing multiple destinations around the globe.

Image source: Getty Images.

3. Faster transaction settlements

When it comes to traditional banks, it's not uncommon for transactions to take days to completely settle. This is due to protocols in bank transferring software, as well as the fact that financial institutions are only open during normal business hours, five days a week. You also have financial institutions located in various time zones around the world, which can delay processing times. Comparatively, blockchain technology is working 24 hours a day, seven days a week, meaning blockchain-based transactions process considerably more quickly.

4. Decentralization

Another central reason blockchain is so exciting is its lack of a central data hub. Instead of running a massive data center and verifying transactions through that hub, blockchain actually allows individual transactions to have their own proof of validity and the authorization to enforce those constraints. With information on a particular blockchain piecemealed throughout the world on individual servers, it ensures that if this information fell into unwanted hands (e.g., a cyber-criminal), only a small amount of data, and not the entire network, would be compromised.

5. User-controlled networks

Lastly, cryptocurrency investors are tend to be really encouraged by the control aspect of blockchain. Rather than having a third party run the show, users and developers are the ones who get to call the shots. For instance, an inability to reach an 80% consensus on an upgrade tied to bitcoin's blockchain is what necessitated a fork into two separate currencies (bitcoin and bitcoin cash) more than four months ago. Having a say goes a long way with investors and developers.

A person using a pin to pop a bubble with a dollar sign inside.

Image source: Getty Images.

This concern simply can't be overlooked

But in spite of these pretty clear advantages, the success of blockchain is no sure thing.

In the plus column, we're already seeing 200 organizations testing out a version of Ethereum's blockchain in some capacity, with other burgeoning players, such as Ripple, also finding enterprise customers using its blockchain in small-scale or pilot projects.

However, the major worry that can't be overlooked is that investors have, time and again throughout history, overestimated how quickly new technology will be adopted . Whether we're talking about internet-based business-to-business commerce, genome decoding, electric vehicles, 3D printing, and so on, none of these game-changers were immediate winners, despite investors sending the valuations of associated companies through the roof. It takes time to lay the groundwork for new technologies like blockchain, and it could be years before we see business adopt this technology as a major component of their payment networks.

Because we don't know how quickly blockchain will be adopted, or even which blockchain technology businesses are likely to prefer, attempting to put a value on what blockchain is worth is meaningless. This also suggests that most cryptocurrency valuations at the moment, which have been driven higher by the promise of blockchain success, might make no sense whatsoever.

Long story short, blockchain may indeed have a bright future as a core payment facilitator for the financial services industry, but it's unlikely, at least in my opinion, to find immediate success. That could be a problem for cryptocurrency investors.

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