5 Things to Know Before Investing In Bitcoin

Read the five biggest investment problems with Bitcoin and other digital currencies and learn why savings accounts, money market accounts and more are safer.
Financial Expert
Managing Editor

Q: How secure are digital currencies like Bitcoin? Could they possibly represent an answer to security concerns like hacking and instability in the financial system?

A: Though Bitcoin and other digital currencies have drawn plenty of attention, security is not a good reason to be attracted to them. At best, they represent highly speculative investments; at worst, they can be out-and-out scams.

Between low savings account interest rates and the threat of hacking, retirement planning and saving have become more complicated in recent years. Under the circumstances, it is easy to see how people might be interested in the promise of a completely new financial instrument like digital currencies. However, digital currencies like Bitcoin don’t provide any miracle solutions to existing problems, and might create some new issues.

5 big investment problems with digital currencies

1. Investments are not backed by any government

Currencies generally derive their value from the promise of an issuing government to support them. Not so with Bitcoin and other digital currencies. They are supported only by far-flung computer networks and their value is derived simply from the willingness of new entrants to invest in the system. Not only is there a lack of support for the value of the currency, but it is missing the security of other investments. An investment in a digital currency cannot be compared with the guaranteed safety of a CD account, savings account, money market account or checking account, which are backed by the FDIC for limits up to $250,000 per depositor, per covered institution.

2. Digital currencies are not very widely accepted

It might even be a stretch to call these instruments currencies, when the basic idea of a currency is to provide legal tender that can be freely exchanged for goods and services. Since digital currencies are still not accepted by most businesses, their utility is very limited.

3. Bitcoin value is prone to wide swings

The Consumer Financial Protection Bureau (CFPB) reports that Bitcoins have seen declines of as much as 60 and 80 percent in a single day. Yes, Bitcoin promoters will tout that they have also had periods of rapid increase in value, but these wide swings up or down simply underscore that this is a highly-speculative investment. History is littered with tales of speculative bubbles that collapsed because when the faith that supported those bubbles was shaken, there was little underlying value left.

4. Some dealers may be fraudulent

Various dealers are free to set up their own digital currencies or digital currency exchanges, and there is little besides experience to indicate which of these are legitimate. When your money is at stake, gaining the experience to know which issuers and exchanges are legitimate can be very expensive.

5. Digital currency systems are experimental and loosely regulated

Digital currencies have been compared to the Wild West of finance. That can be both an exhilarating and a very dangerous place to be.

If you choose to speculate in Bitcoin or any other digital currency, that is your call. Just please understand that this is a highly risky investment that in no way should be compared with money in a savings account or checking account when it comes to security or liquidity.

Richard Barrington has been a Senior Financial Analyst for MoneyRates. He has appeared on Fox Business News and NPR, and has been quoted by the Wall Street Journal, the New York Times, USA Today, CNBC and many other publications. Richard has over 30 years of experience in financial services. He has earned the Chartered Financial Analyst (CFA) designation from the Association of Investment Management and Research (now the “CFA Institute”).