Bitcoin Investment: Is It Worth The Risk?

Bitcoin is a highly controversial investment option. Its supporters argue that it is a revolutionary, decentralised currency that will protect investors from inflation and dictators. Critics, however, point to its volatility, inefficiency, environmental impact, and use in illegal activity.

Before investing in Bitcoin, it is important to understand the risks. Bitcoin is a risky investment with high volatility and should only be considered if you have a high-risk tolerance, are in a strong financial position, and can afford to lose some or all of your investment. It is recommended that investors do not put more than 10% of their portfolio into risky assets like Bitcoin.

If you do choose to invest, it is important to maintain a diversified portfolio that includes several different types of investments to reduce your overall risk exposure.

Volatility

Bitcoin is a highly volatile asset. Its price can fluctuate significantly in a short period, and it has experienced several boom-and-bust cycles since its creation in 2009. For example, in 2022, it fell more than 75% from its all-time high.

Factors Affecting Bitcoin's Volatility

Supply and Demand

Like most commodities, Bitcoin's price is heavily influenced by supply and demand. The cryptocurrency is limited to 21 million coins, and as the circulating supply gets closer to this limit, prices are likely to climb due to increased demand and limited supply.

Investor Actions

Bitcoin's volatility is also driven by investor actions, especially large investors known as "Bitcoin whales." These investors hold enough BTC to influence the market value. If whales were to suddenly sell their holdings, it could cause a panic and lead to a significant drop in prices.

Media and Influencers

Media outlets, influencers, and industry moguls can create investor concerns or hype, leading to price fluctuations. For example, when media outlets announced a Bitcoin-related exchange-traded fund in October 2021, Bitcoin's price skyrocketed, but then dropped when investors realized the ETF was linked to Bitcoin through futures contracts.

Government Regulations

Government regulations and agency views on cryptocurrency can also impact Bitcoin's price. For instance, China's ban on cryptocurrency transactions in 2021 caused a significant drop in Bitcoin's price as miners were forced to relocate.

Bitcoin's Volatility Compared to Other Assets

While Bitcoin is a highly volatile asset, it is worth noting that it can be less volatile than some individual securities and other asset classes. For example, over the last two years, Bitcoin has been less volatile than Netflix stock. Additionally, in October 2023, Bitcoin was less volatile than 92 of the S&P 500 stocks.

Investor Sentiment on Volatility

Some investors may welcome Bitcoin's volatility as it can present opportunities for significant gains. However, it is essential to approach Bitcoin investment with caution due to its high risk and volatility. Most financial experts recommend limiting crypto exposure to less than 5% of your total portfolio to manage overall volatility and risk.

Payment efficiency

One of the primary reasons for the development of cryptocurrencies was to enable anonymous payments. However, this purpose is often overshadowed by the hype surrounding price fluctuations.

Bitcoin introduced a cryptographic peer-to-peer version of money that allows online payments to be sent directly from one party to another without going through a financial institution. This makes transactions more efficient.

According to blockchain.com, the Bitcoin network's payment efficiency is a better reflection of its on-chain economics rather than transactional metrics. The network's daily number of transactions and payments has increased, and the average daily active addresses have also registered a hike, with an improved estimated hashrate.

The efficiency of Bitcoin transactions is also reflected in its energy consumption. A scientific research paper published by Valuechain demonstrated that Bitcoin consumes 56 times less energy than the classical system, and even at the single transaction level, a Proof-of-Work transaction is 1 to 5 times more energy-efficient.

Additionally, the peer-to-peer nature of cryptocurrency means there are fewer fees involved in transactions, as there is no need for third-party involvement.

However, it is important to note that transaction fees for the Bitcoin network have been rising, and there is also the risk of losing your cryptocurrency if you lose your private keys.

Environmental concerns

Bitcoin and other proof-of-work cryptocurrencies require large amounts of energy—more than is used by some small countries—to perform the work associated with crypto mining. The largest country for Bitcoin mining is the United States, which accounts for 37.84% of Bitcoin mining activities.

The energy intensity of crypto mining is a feature, not a bug. Bitcoin mining is the automated process of validating Bitcoin transactions without the intervention of trusted third parties like banks. The way the transaction validation process is designed uses large amounts of energy—the network depends on the computational power of thousands of computers. This dependency maintains the security of cryptocurrency blockchains that use proof-of-work consensus.

Bitcoin's public ledger is decentralised, which means it is not controlled by any single authority. Instead, Bitcoin is constantly updated by a network of computers around the world operated by so-called “miners”. These miners use purpose-built computers to solve complex math puzzles in order to allow transactions to go through—the only way to mint new bitcoins—in exchange for being rewarded a small fraction of the Bitcoins transacted.

Over the last few years, with the price of Bitcoin reaching new highs (and lows, as happened recently with Elon Musk’s Bitcoin Tweet), the attractiveness of mining Bitcoin has led the total energy consumption of the Bitcoin network to grow to epic proportions. Since mining can provide a solid stream of revenue, the number of people—aka miners—willing to run power-hungry machines to make a small profit out of every Bitcoin transaction they help approve has skyrocketed.

As a result, the Bitcoin network now consumes more energy than many countries. According to Digiconomist’s Bitcoin Energy Consumption Index, Bitcoin has such an impact on the environment (118.9 TWh/year)—considering the huge amount of energy used—that it compares to the power consumption of countries like the Netherlands (117.1 TWh/year) or Pakistan (125.9 TWh/year).

According to a study published in Nature Climate Change, Bitcoin’s emissions alone could push global warming above 2°C. This is because the type of energy used also matters. Particularly when speaking of polluting, non-renewable energy, as is the case with most of the energy used in the Bitcoin network. Most—some 65%—mining facilities are located in regions (primarily in China) that rely on (highly polluting) coal-based facilities or hydroelectricity, which are cheap and little taxed. The Cambridge Centre for Alternative Finance estimates coal accounts for 38% of Bitcoin’s miner power.

The environmental impact of Bitcoin mining also includes significant electronic waste, as mining hardware quickly becomes obsolete. According to Digiconomist, the Bitcoin network generates approximately 72,500 tons of electronic waste annually.

There are other alternative cryptocurrencies that have a more ethical focus, such as Seeds, or that use the proof-of-stake mechanism, which doesn't spend as much computing power and energy, such as Dash or NXT.

Criminal usage

Bitcoin's anonymity has made it an attractive option for criminals, with the currency being used for money laundering, drug sales, hacks and thefts, illegal pornography, and even murder-for-hire.

Criminals are becoming more sophisticated in their use of cryptocurrencies to launder money, with hundreds of millions of dollars of dirty funds flowing through digital wallets that allow users to hide their trail. Privacy wallets, which make it harder to track cryptocurrency transactions, are becoming more popular among criminals. In 2020, at least 13% of all criminal proceeds in bitcoin passed through privacy wallets, up from 2% in 2019.

The public nature of the blockchain, however, does make it easier for law enforcement to detect illegal activity. For example, in November 2021, law enforcement seized over 50,000 bitcoin hidden in devices in the home of James Zhong, who had pled guilty to unlawfully obtaining that bitcoin from the Silk Road dark web in 2012. This was the largest cryptocurrency seizure in the history of the U.S. Department of Justice at the time.

Real value

Should You Invest in Bitcoin?

Bitcoin's value comes from its finite supply, its store of value, and its payment system. However, critics argue that Bitcoin's value is inflated by hype and that it is essentially a Ponzi scheme.

Volatility

Bitcoin's value is highly volatile, with daily fluctuations of 5% being ordinary, and occasional double-digit price moves. For example, on May 19, 2021, its price plunged nearly 30%. It also fell over 60% from November 2021 to May 2022.

Efficiency

It takes 10 minutes on average to process a single bitcoin transaction, which critics say makes it too inefficient to work as a means of payment. However, advocates argue that bitcoin is more efficient than credit cards, which take days to officially settle.

Environmental Concerns

Bitcoin relies on massive computing power, and critics argue that it is not worth the energy it consumes. According to the University of Cambridge, it takes more energy to run bitcoin than it does to power the entire country of Poland. However, advocates argue that bitcoin is increasingly run on renewable sources, and that its benefits justify the energy usage.

Criminal Activity

Critics argue that bitcoin makes criminal transactions easier, and that it is mostly used for illegal activity. However, advocates cite statistics showing that cryptocurrency is mostly used for legal transactions. For example, a report by former CIA Acting Director Michael Morell concludes that criminal bitcoin usage "is certainly not higher than it is in the traditional banking system and is most likely less."

Competition

Some supporters of the cryptocurrency industry believe that alternative cryptocurrencies could eventually overthrow bitcoin as the largest cryptocurrency by market cap. They argue that bitcoin's lack of a central development team means that it cannot easily add new functions and innovate. However, bitcoin die-hards see this as one of its most important features, believing that it makes bitcoin the purest, most decentralized cryptocurrency.

While bitcoin has its critics, it also has passionate advocates who believe in its revolutionary potential. However, investing in bitcoin is highly risky, and individuals should carefully consider their financial situation and risk tolerance before investing.

Frequently asked questions