Proponents of the relatively new crypto-currency, Bitcoin (BTC/USD), have long boasted that the system was secure. Onlookers at the recent Vancouver Resource Investment Conference might have seen a company called Greenbank Capital on display, with Director Mark Wettreich telling attendees that his company was betting on Bitcoin because, among other things, it was secure.
“How are you going to steal Bitcoins? Who are you going to rob? You’d have to steal them from the entire Bitcoin community because every transaction is verified by the entire community – it just can’t happen.”
Well, it did. Mt Gox, the world’s largest Bitcoin exchange, and also likely the world’s worst run Bitcoin exchange, lost 750,000 of the world’s supply of the currency when hackers allegedly slipped in and emptied the vault.
Flexcoin, an Alberta-based exchange, albeit a much smaller one, also found out that its vault was technically empty, when hackers allegedly exploited a gap in the time delay between processing a sale and the balance update process, allowing them to overdraw an account thousands of times before the system could stop the transactions.
These were not the first successful hacks of the Bitcoin system, or even the first hacks of Mt Gox for that matter, but they were sufficiently huge as to bring down entire exchanges and leave Bitcoin investors high and dry.
Which has led to a bit of a public relations disaster for Bitcoin.
There’s plenty to like about a non-regulated, non-controlled system that allows people to make online payments with no fees attached. In the retail world, the 3% or so that a credit card company or Paypal charge to process a transaction is a fairly major piece of margin for the seller, who may only be making an 8% margin in the first place.
But security of ones funds is a necessity for the system to work. In order for Bitcoin to work, lots of people need to hold it, trade with it, and accept it. It’s a tall order for companies and individuals to trust a brand new currency at the best of times, but if I can’t be sure my money will still be there tomorrow, I’m going to be much less likely to trust the system with my hard-earned.
Security has to be a given. It has to be bullet-proof. And that doesn’t just apply to transactions, but to the exchanges as well.
Admittedly, banks are robbed of US dollars every day, and nobody suggests the currency should collapse as a result. But banks are insured against theft, so if a savings and loan in Topeka is rolled by a gang of meth-heads, nobody in Topeka is going to lose their life savings. Ditto if someone hacks into the bank’s computer and transfers customers’ money into an off-shore account, which is basically what has appeared to happen with Mt Gox and Flexcoin.
The penalty for robbing a bank is substantial – in contrast, since Bitcoin isn’t a recognized currency, government has a lot harder time getting outraged when someone makes off with a bunch of it. The Mt Gox theft has been met with a shrug by Japanese authorities. Canadian police are investigating the Flexcoin theft, but let’s be honest, the money is not coming back, and Flexcoin isn’t going to cover any losses. It simply shut down and pointed users to its terms of service, which presumably means you’re on your own.
The real problem with Bitcoin is also its big selling point – nobody takes responsibility for it.
A certain kind of investor will be okay with that. It’s a Wild West play. There’s only so many Bitcoins that will ever be made, so the value will be high and, assuming exchanges can keep them safely, will only get higher as time rolls on.
But who will accredit the exchanges? Who will insure them? What happens when they close up shop and disappear? Is the downside of potentially increasing the value of your BTC by 50% every six months going to be the risk that one morning you wake up to find it all gone?
Even if the Bitcoin exchanges can get their act together, there’s another looming problem with the crypto-currency, and that is, if their value keeps going up, nobody is going to use them to buy things.
It’s great that you can buy a coffee with Bitcoin at certain forward-thinking coffee shops, but the first actual transaction of product for Bitcoin in the world came in May 2010 when an individual bought a pizza with 10,000 BTC.
It may have been a lovely pie, but nine months later, in February 2011, Bitcoin found parity with the US dollar, meaning that pizza had cost what had become $10,000.
When the currency hit $1200+ in 2013, that pizza was worth $1.2 million.
So you tell me – are you going to use Bitcoins to buy coffee any time soon? And if the answer is no, the only reason to buy Bitcoin is to ride a price increase…which, right now, isn’t happening because ‘exchanges be crazy.’
Admittedly, there are plenty of Bitcoin supporters out there who are buying up BTC while it’s cheap. And there are an increasing number of public companies in the space; the aforementioned Greenbank Capital is looking to raise $10 million, with half to be invested in Bitcoin and the other half in Bitcoin-related industries. They haven’t made any public comment that would suggest they’ve changed course.
Winrock Resources has recently announced it is shifting out of real world mining and entering Bitcoin mining as proprietors of Bitcoin ATM machines and a state of the art Bitcoin mining facility that will rent out computer power to ‘miners’.
Winrock, or NewNote as it will soon be known, will probably do alright with their model because there are enough Bitcoin fans out there to hold a niche within that crowd. And mining for Bitcoins (that is, allowing your computer power to be used to confirm Bitcoin transactions around the world which, in return, gives you a chance to ‘create’ new Bitcoins, of which there will be an increasingly limited supply) will be a profitable enterprise as long as there’s any demand for BTC.
(Full disclosure: I own a small parcel of shares in Winrock as I see the company being a better investment than actual Bitcoin – as it happens, in the last few months, Bitcoins have basically halved in value while Winrock has doubled.)
But if there is a real industry to be forged out of the chaos of Bitcoin, perhaps it would be in accredited, insurance-backed exchanges. Currently, if a newbie wants to get into Bitcoin, finding an exchange that doesn’t look like it is run by a Nigerian prince is hard, and trusting them with your personal information is even harder. The moment a true corporate-backed, transparently-operated branch of the system emerges, Bitcoin may get a real shot in the arm.
But such an entity would want to be profitable. Which means transaction fees. And the antithesis of what the pioneers of Bitcoin stood for.
A poll on the front page of the Stockhouse.com website asks users, which likely consist heavily of the high risk-high return demographic, if they hold Bitcoin, or are interested in doing so. In the wake of Mt Gox and Flexcoin, only 3% of respondents say they own BTC, with 7% saying they’re considering doing so.
89% express no interest in the currency.
You can include this author on that front. I looked into BTC six months ago but couldn’t find an exchange I trusted with my information, let alone my money. That situation stands in the wake of Mt Gox.
Of course, every mining company is worth pennies when it starts off, and those who are prepared to take a chance on scant evidence that gold will be struck are the ones that will return a ten-bagger when it indeed is.
But they also, often, lose it all.
There will always be a group of investors for which this is a fair trade, and those are the people who will carry the torch for Bitcoin through 2014; the believers, the promoters, the optimists, the gamblers.
Just don’t expect to be buying coffee with it any time soon.
by Peter Palabra