Introduction

Last January, I posted an article about Bitcoins. This post is a sort of part II of the linked article. Due to the fact that the new post will talk about Bitcoins as well as other cryptocurrencies, I decided to change the title. I realized, in fact, that the world of cryptocurrencies goes well beyond that of Bitcoins.

At the time of writing, there are many digital currencies on the market, new ones are born every week. Some of them are associated with interesting projects, some of them are just scams. In any case, I think that it is a good idea to keep an eye on this phenomena because it might be a real game-changer for the financial world of the future.

Decentralization and disintermediation

From the technical standpoint, there are many differences among the cryptocurrencies. However, for the majority of them, the keywords are decentralization and disintermediation.

Many see the birth of such currencies as a response to the financial crisis triggered by the collapse of Lehman Brothers. In other words, these new coins would represent an attempt to move away from the traditional financial institutionssuch as (central) banks and credit card circuits, in order to disintermediate them by the use of a decentralized infrastructure.

In principle, this disrupting idea could be really revolutionary because it would remove the power of the issuing of the currency from states and central banks. [1] It would also allow the people to move money directly, quickly, and cheaply all over the world, as the Internet is borderless. In practice, it seems that implementing a truly decentralized scheme is not that easy. The Bitcoins community, for example, is already dealing with the problem of mining centralization. [2]

Besides the purely financial aspects, many fields of the economy might be affected as well, if these currencies replace the traditional ones. I will use a couple of examples to sell the idea of how large their potential is and how many new economies could arise.

The first refers to IOTA, a currency thatalong with its blockchainwas conceived expressly for Internet-of-things (IoT) applications. One of the future possible scenarios looks like this – Imagine that you own a robot lawnmower and that your garden is divided in two by a stream. Of course, the robot would not be able to move from one side of the garden to the other by itself. Whenever it needs to overcome the stream, the robot gets in touch with a drone which is able to move it from one side to the other. Then, the robot pays the drone in IOTAs for the service. Amazing and scary at the same time, huh?

The second example is steemit which is a blogging platform where the bloggers are rewarded for the posts they write. At first sight, the idea seems great, however many criticisms have been voiced. A more careful look, in fact, would say that the underlying mechanisms are not so advantageous for the bloggers. Some even claim this is a scam. For more details on this, please see here and here.

Trading

Apart from the political goals, there is no doubt that many people use the cryptocurrencies for mere speculation. It is true that, in the past months, many coins increased their value tens or even hundreds of times. Of course, this attracted the attention of many investors. I myself tried to invest a very limited amount of money because I was interested in understanding how the trading tools work. The following is a short recap of what I did. After reading it, I think that you will agree that digital currencies handling is technically complex, in addition to being a high-risk activity – I will never get tired of saying it.

The basic ingredients to do cryptocurrency trading are:

  • Having an account on one or more exchanges
  • Getting information about the market in order to decide which coins and when to buy/sell them
  • (recommended but not mandatory) Having a tool to track gains/losses of all of the owned currencies, even if they are spread over different exchanges and/or wallets.

To do this test, I created accounts on five different exchanges, as there is not a single exchange which trades all of the existing coins together. Two of them support fiat money/cryptocurrencies conversions as well. In other words, they allow selling US dollars or Euros to buy digital currencies and vice-versa. Also, they can receive/transfer fiat money to/from traditional bank accounts. Generally, creating an account on an exchange is trivial because all you need is an email address. However, for the exchanges which can handle fiat money too, things are more complicated. Once you create the basic account, in fact, you need to verify your identity in order to enable fiat money movements. This is due to the international laws against money laundering and it usually requires you to send electronically a copy of an identity document and a copy of a utility bill.

Managing such accounts properly is not trivial either. For example, you should use strong passwords, backup them regularly, and not keep the backups on the same device you use to access the exchanges. Also, you are strongly recommended to enable the two-factor authentication (aka 2FA) to log in and to use email confirmations for buy/sell operations. As the exchanges hold the private keys of the wallets associated with your account, you should keep the coins there for limited periods of time. Instead, you should use private wallets. Of course, this implies that you have to move the coins from your private wallet to the exchange every time you want to trade them. Last but not least, the device where you keep the private wallets should be air-gapped. Using a hardware wallet is a good idea as well to increase the security, even though I have not bought one yet.

Operationally, this is how a typical trade looks like. For the sake of simplicity, I make the assumption that I use an exchange which supports fiat money too. First, you need to sell fiat money to buy Bitcoins (BTC) as this cryptocurrency is still the most common intermediate asset to buy/sell other coins. Say you buy some BTCs from a broker who sends them to your private wallet. After some confirmations, you have the BTCs at your disposal. Then, you have to move these Bitcoins to the exchange you want to use to buy the final currency that you have chosen, which is Ether (ETH) in this example. Again, you have to wait for some confirmations before the BTCs are available at the exchange wallet. Finally, you can sell the Bitcoins and buy the Ethers. Once the buying operation is completed, you should move the Ethers to a private wallet. After a while, say that Ether has increased its value and therefore you want to sell them to buy fiat money again to spend your gain in the “real world”. You have to move the Ethers back to the exchange wallet from your private wallet. At the exchange level, you have to sell them to buy Bitcoins. Then, you have to sell the BTCs to buy fiat money. The last step is a credit transfer from the exchange account to your bank account (or your credit card or whatever allows traditional transfers). [4] After some days (or longer depending on the bank) the amount is credited. Phew!

With regard to gathering information about market trends, although there are tons of websites talking about cryptocurrency trading, I preferred to subscribe to a professional consultancy service [5] to receive buying/selling suggestions (aka signals) on a regular basis, as I would not have the time to do such analysis by myself. For the sake of completeness, I also

  • Joined some public Telegram groups related to the blockchain and digital currency technologies
  • Followed some Youtube channels
  • Listened to some interesting podcasts.

I based my trading decisions on all of this information.

Lastly, I mention the cointracking.info website. It provides a free service which allows tracking of all the cryptocurrencies you have in your portfolio, no matter where they are stored. It calculates realized and potential gains and gives you a very effective view of the overall currencies allocation.  I strongly recommend it if you want to do trading seriously.

 

 

[1] As known, this is the power par excellence.

[2] This issue reminds me of horizontal democracy. In Italy, a young political movement (called Movimento 5 Stelle) tried to implement a horizontal decision-making process. At the end of the day, leaders and followers emerged among its elected representatives anyway. It seems that the leader/follower dichotomy is intrinsic to the human condition. However, this is a complex matter that probably deserves a specific post …

[3] Actually, there are exchanges that allow converting fiat money to some digital currencies directly. For instance, Bitfinex supports USD/Ether conversions.

[4] I heard of traditional banks which reject transfers from the exchanges. I recommend checking in advance if your bank is one of these.

[5] I took advantage of a free-trial period.