Cryptocurrencies are not Investments

April 24, 2022 | by V. Henry Astarjian | Posted in Blog

Like the story of the child who exclaimed “the emperor has no clothes”, I am taking the liberty of exclaiming today that cryptocurrencies are not true investments. That is not an opinion – it is a statement of fact based on the settled definition of what an investment is supposed to be.

An investment is an asset that produces income and/or capital appreciation over time. Its purpose is to grow a business, to fund a project, or to keep operations going in an organization. Stocks and bonds are examples of true investment vehicles that do these things. Investments are based on real-life factors such as corporate earnings, industrial production, or the operations of governments. Over time, investments offer the expectation of positive returns.

Cryptocurrencies, on the other hand, fall into the realm of speculation, which is another word for gambling. They offer no reasonable basis for expecting a positive return.

They are not ownership claims on real assets, as a stock might be in a company. They are not debt instruments secured by real assets, as a bond might be. They are not real estate that you can see and touch. They are not gold or silver, both of which have been universally accepted as solid money for millennia. And they are not even fiat currencies, like the U.S. dollar, Japanese Yen, or British pound which are all backed by the full faith and credit of their respective governments. There is always some real-life factor backing up an investment.

The increasing acceptance of cryptos as an investment category by the general public and by investment managers is both problematic and misleading.

To compound the miscategorization, cryptocurrencies are not real. They are not tangible, unless you count the coins dispensed by crypto vending machines. Otherwise, they are based solely on a word, the name of the crypto brand you are buying. There’s no tangible connection between the real world and the ethereal world of cryptocurrencies. Cryptocurrencies are concepts in the mind. Their trading is based purely on sentiment, with buyers and sellers betting on the price fluctuations surrounding the crypto brand’s name. Their value is only the value imputed to them by the mass of people worldwide who think they are worth buying today because someone else will buy them at a higher price tomorrow. This is gambling, not investing.

To further elevate the risk factor of crypto trading, cryptos are increasingly seen as guaranteed bets where the buyer can’t lose. The credibility of cryptos is enhanced by the high-tech aura that surrounds them, making it cool and trendy to trade these instruments. Buyers often cite the strength of the blockchain technology that backs up cryptos as their rationale for seeing them as safe and legitimate. 

When thinking about the current craze in crypto trading, the term ponzi scheme comes to mind. Named after the infamous Boston businessman of the 1920s, Charles Ponzi, this scheme in part describes the cryptocurrency phenomenon. Each transaction relies on the prospect of tantalizing payouts to existing owners, with the buzz then attracting new buyers. 

Another good historical comparison is to the Tulip Mania of 17th century Holland. There is some similarity for sure. The hype is one factor, as is the belief that the future holds only higher prices and guaranteed riches. Both tulip hysteria and cryptomania rely on the greater fool theory where a buyer today expects to sell to a buyer tomorrow at a higher price, because tomorrow’s buyer expects to sell in turn at an even higher price. The difference of course is that in 17th century Holland if you bought a bunch of tulip bulbs at insanely high prices, and the whole tulip market failed, you could at least plant your bulbs in the ground and make a beautiful tulip garden or farm.

Unfortunately, if cryptos fail all you will have at the end of the day are memories. 

Disclosures: Waterstone Advisors, LLC is a Massachusetts registered investment advisor. Registration with securities authorities does not imply a certain level of skill or training. Investing carries risk of loss, including loss of principal. The information and data presented in this note have been compiled from publicly available sources that are believed to be reliable. However, their accuracy is not guaranteed. Waterstone Advisors LLC does not guarantee the performance of the securities or strategies discussed or analyzed in this note. An investment in these securities or strategies may result in complete loss of principal. For additional information and disclosures, please see our ADV Part 2 (the “Firm Brochure”) in the Our Approach page of our website at  www.waterstoneadvisorsllc.com , or contact us at 978-828-2188.