Introduction

Generally speaking, I’m a curious person, and I like to learn new things. Economics, finance, and technology are examples of fields that I find very fascinating. Therefore, I couldn’t resist experimenting with one of the finance-related technologies that is currently on everyone’s lips, the blockchain.

bitcoin-logo-hd-wallpaper2

Bitcoin cryptocurrency is probably the most famous application that makes use of it. I’ll describe my experience with using this electronic money. Please note that, as I’m not an expert, what you read here might not be 100% accurate. Actually, I would be grateful if any Bitcoin master informed me about inaccuracies or mistakes.

The intention of this post is not to teach the basics of Bitcoins. There are tons of resources available on the Internet that explain the basic concepts such as private/public keys, wallets, transactions, etc. Rather, I’ll focus on practical operations and considerations that I made during my tests.

I hope this post is useful to anyone who is interested in starting to use Bitcoins.

Wallet Creation

The first thing I had to do was the creation of wallets. I use the plural form because I wanted to have two wallets, each physically stored on different devices. The first one is associated to a smartphone. As such, it cannot be considered very secure, because it lives in a device that can be easily stolen or forgotten. I’ll refer to it as wallet A.

The second one is stored on a desktop PC, that, in principle, should be more secure than wallet A. Let’s call it wallet B. In a daily usage scenario, you would use wallet A for purchases and quick trading operations, while wallet B would be used as a sort of “vault”, keeping most of the owned Bitcoins.

To create and manage the wallets, I used Electrum (Linux version for the PC, and Android version for the smartphone).

Buying Bitcoins for the First Time

Once the wallets had been created, I had to buy some Bitcoins. This is the first non-trivial hurdle to overcome, because important security-related factors have to be taken into account.

Generally speaking, I had four practical options to buy the Bitcoins:

  1. Meeting someone available to sell me the Bitcoins, that I would pay for with cash
  2. Using an ATM
  3. Finding someone available to sell me the Bitcoins, that I would pay for in advance (sending cash via regular mail, credit transfer, etc.)
  4. Using an exchange platform, such as localbitcoins

Each of these options works relatively easily and is characterized by a different grade of security.

Option #1 (In-person Seller) is probably the most secure, provided that you meet the seller in a public place. However, it is less convenient, because you can’t do it by sitting in front of your PC. Also, it may be difficult to find a seller if you live in an area where Bitcoins are not common yet, as is my case. For this reason, I had to discard this option.

Option #2 (ATM) is easy, provided that you can find one close to you. In my case, the nearest is about 50 km away from my home—not that close … About security, I think that once you have put your cash in the machine, you are in the hands of the company running the business. If, for any reason, the ATM does not credit you with the expected sum of Bitcoins, I don’t know if you can easily cancel the operation and be refunded.

Option #3 (Advance Payment) is pretty quick, but once you send the payment, you have no guarantees that the seller will credit the expected amount of Bitcoins. For all you know, he could  be a scammer.

Option #4 (Exchange Platform) is perhaps the easiest, however you have to take into consideration the cost of the exchange platform fees. About security concerns, buyer needs to be aware of the following aspects:

  • Keeping the wallet on an exchange platform is generally not a good idea. It means that the private keys are stored on somebody else’s servers and could potentially be hacked in any moment. The usual advice is to keep the Bitcoins there for the shortest amount of time possible. In other words, it is recommended to use these kinds of wallets like the wallet A, mentioned in the previous section.
  • In the event that a seller cheats you, you are protected by the escrow mechanism. In fact, when the seller subscribes to the platform, he must deposit a certain amount of Bitcoins, which are used in such cases. This and other services justify the exchange platform’s commission.

I decided to use an approach that is a mix of options #3 and #4. As a precaution, I also decided to buy a limited amount of Bitcoins. This is what I did in practice.

Firstly, I subscribed to localbitcoins, in order to find a reliable [1] seller in my area, because I wanted to buy the Bitcoins with cash. I was able find a trustworthy seller, however he was not close enough to easily meet me in person. As he is an active Bitcoins trader on localbitcoins, I found his phone number, then contacted him via Telegram. After getting in touch with him, we agreed on the payment method. I issued a money transfer to his credit card. Since his credit card is released by the Italian public mail company (Poste Italiane), and I also have a home banking account provided by the same company, it was a piece of cake. I was able to transfer the money (20 €) with just few clicks, and the transfer took few seconds to be completed. Poste Italiane charged 1 for the operation. Then, I notified the seller about the transfer. In turn, he transferred the Bitcoins as soon as he verified that he received the Euros on the credit card account.

It is worth remembering that I provided the seller an address associated with my wallet A. In other words, I did not create a wallet on the exchange platform, but I used the wallet held in my smartphone, which I created myself.

Inside the Bitcoins Transfer

It is very interesting to dig into the transactionthat is the block of dataincluding my transfer. To find such information, I put my address in the search box of blockchain.info. My transfer was put in a transaction for which 0.00093179 BTC were paid by the sellers as fees. These fees are a form of incentive and compensation for the miners. When you issue a send operation, you have to choose how much you want to pay: the more you pay, the quicker the transfer will be confirmed. I’ll get back to this later, as the confirmation mechanism is one of the most important things related to the blockchain technology.

bitcoin-chain

As a buyer, I had to pay a commission to the seller, instead. This commission is determined by the market. The seller I bought the Bitcoins from, is used to determine his commission according to the other traders’ commission. Please note that he considers the other traders on localbitcoins who have a similar reputation grade, as reference. At the time of this writing, this fee was in the 710% range. This commission is not explicitly indicated anywhere. Instead, it is “embedded” in the exchange rate applied by the seller. I’ll clear this point by using the actual figures of the transfer.

When the trader made the transfer, the reference rate was: [2]

1 BTC = 864

He decided to apply a 7% commission, so he applied this rate:

1 BTC = 924

as 864 x 1.07 equals to 924.

In other words, he increased the current price of a Bitcoin by 60 , corresponding to about 7% of 864 (60/864=6.944).

When questioned, he was not able to tell me how much he paid for the transfer, because he moved the Bitcoins from one of his wallets on localbitcoins, and he let the exchange platform to set this fee automatically.

Since I transferred 20 , I received back 0.021645 BTC or 21.645 mBTC (20/924).

 

 

[1] Another useful service provided by localbitcoins is the reputation system, that is based on users’ feedback.

[2] It is worth remembering that Bitcoins market is not regulated. As such, there are no official exchange rates with respect to the fiat money. Instead, there are several rates determined by the law of supply and offer. See for example this page.

Moving Bitcoins from Wallet A to Wallet B

The next step was the transfer of some Bitcoins from wallet A to wallet B. I decided to move 10 mBTC. In regard to the transaction fee, I did not change the default setting of Electrum: Dynamic Fees flag was enabled, and the Within 5 blocks option was selected, resulting in a fee of 0.69837 mBTC/kB.

After this transfer had completed successfully, I had a look at blockchain.info again. The block in which the transfer was included, is 226 bytes. Therefore the expected fee is:

(226/1000) x 0.69837 = 0.15783162 mBTC

It matches the value indicated by blockchain.info, that is 0.158 mBTC. [1]

 

 

[1] This confirms that, in the blockchain world, 1 kB = 1000 bytes, and not 1024 as I firstly assumed.

Conclusions

Even if I considered just few of the aspects of Bitcoins (for example I said nothing about anonymity issues), I think I can draw some conclusions.

  1. Blockchain technology has an undeniable potential. However, I think that the applications built on top of it, are still too complex to understand and to use for the average user. There are many technicalities you have to comprehend, in order to understand exactly what you are doing. Since we are talking about real money, in my opinion a superficial comprehension of the underlying mechanisms is not enough. [1] Thus, I think that Bitcoins are not for everyone.
  2. The major concern about the use of Bitcoins, is the intrinsic (in)security of the blockchain. Cheaters are part of this market, and you have to keep in mind that the money transfers are constantly threatened. The use of an exchange platforms can mitigate such issues, but I think that, again, mastering the blockchain technology is the best thing to do to effectively protect your wallets.
  3. As it is not governed by a public authority, the blockchain is driven by the brutal and cruel laws of an unregulated market. Nevertheless, from a different perspective, this freedom gives the users many opportunities: speculation and arbitrage are some of the better known examples, but the blockchain can be exploited to build even more advanced applications and services.

I have not tried to sell Bitcoins, yet. Anyway, I would like to write a Part II to describe the selling process, as soon as I’ll test it. Stay tuned.

 

 

[1] I recommend the book Mastering Bitcoin by Andreas M. Antonopoulos. It can be freely  downloaded in PDF format here.