Cryptocurrency Versus Blockchain Investing – Understanding The Differencesbr>
2018 has already been another stellar year for blockchain and cryptocurrencies investing. After seeing more than $3.8 billion in blockchain investments in 2017, the space has already experienced a three-fold increase this year, reaching $11.9 billion raised by the end of the second quarter.
Distributed ledger technology and virtual currencies pose both challenges and opportunities to current models of investing and capital formation, setting new paradigms for the industry. The continued popularity of initial coin offerings (ICOs) could be the beginning of the end of investing as we know it.
Over the past 12 months, public interest in blockchain technology has consistently been overshadowed by cryptocurrencies. This trend was particularly true from December 2017 to March 2018, when searches on Google for the term ‘cryptocurrency’ outperformed searches for blockchain by more than 100 percent.
‘Crypto’ – catchy but misleading
Investing in cryptocurrency rather than blockchain seems to follow a similar pattern to search trends for those terms. However, these numbers likely point to a different issue: there is a general lack of understanding with regards to the terminology for blockchain-based assets and cryptocurrencies.
A currency must fulfill three functions: unit of account, store of value and medium of exchange. While many blockchain-based assets demonstrate these characteristics, these functions – more often than not – are a side effect of the main objective of a token. Ether, for example, is the unit of account on the ethereum blockchain. However, ether was not intended to be a cryptocurrency but the fuel for operating applications on the Ethereum platform. As such, ether is a commodity.
Furthermore, most tokens created on the ethereum blockchain were designed for a specific purpose such as usage in a new application or platform where the token fulfills additional functions embedded by programmers via smart contract. Just like the often-quoted ‘Chuck E Cheese’ token, these cryptographically-secured tokens do not fulfill the currency criteria as they are not meant to be units of account.
Only a few virtual assets were issued for the specific purpose of functioning as cryptocurrency. These include Zcash, Dash, Monero and Bitcoin Cash. While bitcoin itself was created with the specific purpose of being a medium of exchange, it is mostly regarded as a store of value similar to a precious metal. This is why it is often referred to as ‘virtual gold’ and – of course – traded as a commodity on mercantile exchanges.
Investing in currencies and commodities
Investing criteria for currencies differ from those of commodities. The value of a currency is determined by the soundness of its monetary policies as implemented by its governing body. For example, governments may print more money to inflate their currency. Commodity pricing, on the other hand, is largely driven by market demand.
If your intention is to invest in cryptocurrencies, you must understand the governance of these currencies, if they are inflationary, and how well they function as a medium of exchange.
All other tokens must be scrutinized for their market demand. Since most of these tokens were issued by startups, focus must be given to product market fit and the size of the addressable market.
The three rules of investing: timing, timing, and timing
Lastly, investing is about timing. The first crucial decision any investor will have to make is when to buy. Buying decisions are closely connected with the decision when to sell an asset. If the investor has a limited time horizon for the return of the capital, then this time horizon (i.e. the ability to turn an asset into cash) must be factored into the decision-making process for the asset in question. In the case of most cryptocurrencies, liquidity is of no concern, as these assets are listed across several exchanges with constant demand from buyers. However, the market for all virtual assets, including cryptocurrencies, is still in its infancy and shows large volatility. Buyers of cryptocurrencies should have a minimum of twelve months’ time horizon when investing.
The growth of bitcoin’s popularity is symbolic for how blockchain can impact every industry and foreshadows parallel developments that will utilize decentralized functions (such as a Decentralized Autonomous Organizations or DAOs). Bitcoin and other digital assets have outperformed all traditional investment vehicles in 2017 and despite the overall volatility of cryptocurrency asset markets, are on track to repeat this feat in 2018. Technology investors must not only familiarize themselves with the basic fundamentals of this new space but should also analyze how these new paradigms might impact their current portfolios.
About the author
Christian Kameir is a managing partner for Sustany Capital, a venture fund exclusively focused on blockchain investments. He is a guest lecturer at several California business schools and official member of Forbes Finance Council. In addition to majoring in business, Chris is certified in neuro-linguistic-programming and a graduate of Muenster’s School of Law.