Bitcoins – an investment opportunity, or a disaster waiting to happen?

Bitcoins have become quite popular in recent press, with the infamous Winklevoss Twins (of Facebook fame) apparently owning 1% of all Bitcoins so I thought I might come, rather late, to the party and see if there was an opportunity here for me.  Of course, being one for travel hacking I was immediately thinking is there a way that this could be the new Mint Dollar Coins deal, which allowed people to purchase Dollar Coins at face value with Credit Cards, to earn millions of points.

Upon cursory inspection it might be possible to leverage Bitcoins for such an endeavor, as there are some marketplaces available that do accept credit card payments – however, the volatility of  Bitcoins stopped me dead in my tracks, and I didn’t even bother to see if there was a 3% creditcard fee involved.

On a daily basis the value of a Bitcoin has proved to drop, or gain as much as 50% in value – considering buying $1000 of these for Credit Card points, only to find your $1000 is now worth $500 and some SPG Points would make even the most dedicated travel hacker pale.

What are Bitcoins ?

Bitcoin were ‘invented’ in a theoretical paper published in 2008 by Satoshi Nakamoto (this is a pseudonym, and the real identity of the creator remains a mystery) it is an experimental, decentralized digital currency that allows payments to anyone around the world instantly, operating on a Peer-2-Peer Network with no central authority.  Therefore the production of the coins cannot be altered, increased or decreased based upon Macro Economic factors, they are just going to produce exactly 21 Million of these coins, over a slowly decreasing release schedule that has over half that number in circulation now, and the remaining coming out between now and 2140.

Does anyone actually use Bitcoins to buy real things?

The most famous example of a Bitcoin sale was in 2010 when Laszlo Hanyecz from Florida announced he would pay 10,000 Bitcoins for 2 Pizzas.  A guy in England placed an order with Papa Johns in Florida, paid by Credit Card and received 10,000 Bitcoins through the network as payment.  Just so you know, the current value of a Bitcoin is $117 (last month it hit a high of $260!) so that was over a Million Dollars per Pizza.  Of course, at the time it was worth pretty close to $25, pretty amazing growth in valuation there.

Today, the market has grown, and in addition to Pizzas you can buy all sorts of luxury items.  The site BitPremier.com  lists this rather snazzy Ferrari F430 2008 model for 1,392.882 BTC – which is about $162,000 at the time of writing.  Not bad when you consider the book value according to Car and Driver is $188,000.  They are also listing a luxury apartment in the Trump Tower Soho, only available via Bitcoins !

Bitcoin Mining

Due to the massive fluctuations in price (imagine the USD dropping 50% in a day!), buying Bitcoins is too risky a play even for me, and I do like a little risk in my portfolio.  Therefore I thought it might be better to dip my toes in the water by Earning Bitcoins, and seeing how I can liquidate them.  The risk then is just limited to opportunity cost in that I could be doing other things with my time than earning the coins.

Bitcoin Mining is something that I came across today in my research and immediately signed up for, I want to experiment with this and see what we can learn, so the best way is to jump in and see what happens.  The mining process might be familiar to some of you, it is very much like the SETI Project where users help SETI crunch through tons of data that is collected on the Solar System, using the combined CPU power of a large group of individuals to handle processing that otherwise would be too ungainly to manage.

Bitcoin mining works on the same premise, that you take a chunk of data and work through it using your PC.  When you successfully work through a block of data you earn 25 Bitcoins (approximately $3,000) However the market for this is now so competitive that it is a veritable Gold Rush out there, and the only way that people are succeeding is by forming groups where we all work together on a project, and get to divvy up the share of the coins we collected based upon how much processing we did (minus a 2% handling fee for the Admin).  Getting set up to mine Bitcoins is a 3 step process:

1. Set up a Bitcoin Wallet – like https://coinbase.com/you need this to store your coins, and generate a code that people can send coins to you with.
2. Download a Bitcoin Mining Software Program – such as http://guiminer.org/ this will run in the background of your PC when idle
3. Join a Mining Group [optional] – I joined these guys in the Czech Republic http://mining.bitcoin.cz/ and have been hammering away at the mines all day.

Just in case you are thinking to give this a try and not use a mining group, this device, which is a high end mining rig for Bitcoins recently sold on ebay for over $20,000 be warned, competition is stiff!  Oh, and the seller would ONLY accept Bitcoins for payment!

So, are Bitcoins a good investment?  Perhaps. for me I say no- simply because there are too many factors out there that make them far to volatile and risky to hold in quantity.  They are the subject of major hacking efforts, on one occasion the major Bitcoin exchange was hacked and a large number of coins were stolen, and flooded onto the market, making the effective price of a coin drop to a Penny each… not the thing you want to hear if you have just bought 1400 coins to trade for that Ferrari F430!  Having said that, it is very hard to know where the bubble is, and if they continue to grow in popularity at their current rate there is no reason that in years to come these will be incredibly valuable.

That isn’t stopping several companies setting up Derivatives (betting on future price of the coin) and even a Hedgefund based upon these products.. I just have to hope these whacky finance guys won’t go crazy with our money and we have to bail them out again.  One of the largest, a firm called Exante was recently featured in the Financial Times:

Exante predicted that public and media interest would take off when Bitcoins were trading at $100. Managing partner Gatis Eglitis claims they are now getting 20 calls a day from large asset managers looking to invest up to $100m.”

I am going to give mining them a crack, just to see how easy that is based upon a standard Home PC and see what can be done with the coins.  If I could generate just one coin that would be a great achievement and some nice passive income – I might just earn one and keep it to see where these things go.  I’ll keep you posted on how it works out.