Are Cryptocurrencies Alternative Investments?
Once the purview of niche hobbyists and the tinfoil hat crowd, cryptocurrency has become increasingly popular among everyday investors. In fact, 13% of Americans invested in cryptocurrency in 2020, and China pivoted away from a crypto crackdown to call Bitcoin a legitimate investment alternative.
But for alternative investors, cryptocurrencies pose some interesting questions. For example: is cryptocurrency a type of alternative investment? And more pertinently, is it a worthwhile alternative investment?
Here’s what you need to know before you get started in digital coins.
What is Cryptocurrency?
Cryptocurrency is a digital currency secured by cryptography and supported by blockchain technology, making it nearly impossible to double-spend or counterfeit. Like any other currency, it can be exchanged for goods and services among merchants who accept it as a store of value.
However, unlike fiat currencies (like the U.S. dollar), cryptocurrency is not issued by any central government or financial institution. Cryptocurrencies are not tied to fiat currencies like the U.S. dollar either (except stablecoins, which are cryptocurrencies pegged to multiple stable assets like fiat currencies or precious metals).
Because of this, the name “cryptocurrency” is a bit of a misnomer. While cryptocurrency has the six economic characteristics of money (acceptability, portability, durability, divisibility, uniformity, and limited supply) it’s not technically a currency at present. A more accurate comparison is a casino token or arcade chip.
How It Works
Cryptocurrency relies on blockchain technology—a distributed, decentralized, immutable ledger that facilitates asset tracking and recording of transactions. This is what makes cryptocurrency secure.
All cryptocurrency transactions are recorded in perpetuity on the blockchain. Each transaction, or block, has a timestamp and a hash linking it to the blocks before and after it, and every block is verified by users with access to the network. In order to change transaction details in a single block, you would have to hack the entire chain.
This is why cryptocurrency transactions work. You’re not dealing with a nationally recognized currency, but you’re also operating in a trustless system (i.e. a system that doesn’t require trust to operate successfully).
How Cryptocurrencies Have Value
Let’s rewind for a moment to the obvious question: if cryptocurrency isn’t a recognized currency, and it’s not tied to any recognized currency, then how does cryptocurrency have value?
Basically, for the same reason that fiat currency has value: because people agree that it should.
Any currency in the world is considered functional if it acts as a store of value. In other words, it functions if you can count on it to maintain its value over time. In combination with the six key characteristics of a currency, this makes the currency functional for use in the larger economy. However, every fiat currency in the world is now based on value agreements, since we no longer rely on the gold standard (which allowed us to assign value based on intrinsic properties).
So when we talk about the value of cryptocurrency, we’re talking about shifting understandings of how currency derives value. Historically, gold was favored because it had reliable intrinsic properties, but it also left economies vulnerable to supply runs, which is why we made the switch to paper currency. Paper currency, like cryptocurrency, has value because a confluence of factors agree that it ought to be valued at a certain rate. And while time will tell if cryptocurrencies overtake fiat, the fundamental value function remains constant. Just look at the Squid Game cryptocurrency scam to understand the function in the wild.
When you think about it, this makes cryptocurrency a lot like other forms of investment, like a stock, and even alternative investments, like a painting.
What are Alternative Investments?
An alternative investment isn’t a precise investment class so much as a broad category. Alternative investments are basically anything that doesn’t fall into one of the three conventional investment categories:
In other words, anything that isn’t stocks, bonds, or cash is technically an alternative investment. This includes everything from real estate to racehorses to Renoir paintings.
However, it is important to keep in mind the features that all alternative investments have in common: they’re complex, they’re relatively illiquid, and they’re riskier than their conventional counterparts, in part because they’re less regulated than conventional investments. They also show very low correlation to conventional investments and the stock market, and they are not traded on the stock market, but rather in niche markets.
Sounds a lot like cryptocurrency, doesn’t it?
Is Cryptocurrency Worth It for Alternative Investors?
Yes, cryptocurrency is a form of alternative investment. The question then becomes whether it’s worth investing in cryptocurrency. That’s where it gets a bit tricky.
First, if you think of cryptocurrency as equivalent to fiat currency, it doesn’t make sense as an investment vehicle—after all, people don’t invest in currencies, but rather in things that will generate currency value over time. But cryptocurrency isn’t equivalent to fiat currency, at least not yet.
For now, it’s more logical to think of cryptocurrency as an asset, a bit like a painting. In that case, the value of cryptocurrency depends on whether people agree on its value. Cryptocurrency was launched with lofty objectives, but it remains to be seen whether it can achieve them in the years to come.
If cryptocurrencies do achieve their lofty objectives and kick off a new understanding of money and value, then investing early would translate to future wealth. If the cryptocurrency project doesn’t succeed, you’ll have sunk your money into thin air. But then, this doesn’t make cryptocurrency wildly different from other investments—only time can tell.
As such, it’s impossible to say for sure whether cryptocurrency is worth it. For now, as long as investors agree that cryptocurrency has value, it might be. As for the future, take the same approach you would to any other investment: be calculated, be pragmatic, and pay careful attention to market indicators to ensure you can maximize value (or mitigate losses).
Getting Started in Alternative Investments
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