What is a 'Cryptocurrency'

A cryptocurrency is a digital or virtual currency that uses cryptography or encryption for security. A cryptocurrency is difficult to counterfeit because of this security feature. A defining feature of a cryptocurrency, and arguably its most endearing allure, is its organic nature; it is not issued by any central authority, rendering it theoretically immune to government interference or manipulation.

Breaking Down 'Cryptocurrency'

The anonymous nature of cryptocurrency transactions has many benefits however also makes them well-suited for a host of nefarious activities, such as money laundering and tax evasion.

The first cryptocurrency to capture the public imagination was Bitcoin, which was launched in 2009 by an individual or group known under the pseudonym Satoshi Nakamoto. As of 1st June 2017, there were over 16.3 million bitcoins in circulation with a total market value of just over $71.05 billion AUD (based on coin price of $4,359.39AUD as at 9th August 2017). Bitcoin's success has spawned a number of competing cryptocurrencies (of which there are now in excess of 700), such as Ethereum, Litecoin, Namecoin and PPCoin to name, but a few.

'Cryptocurrency' Benefits and Drawbacks

Cryptocurrencies make it easier to transfer funds between two parties in a transaction; these transfers are facilitated through the use of public and private keys for security purposes. These fund transfers are done with minimal processing fees, allowing users to avoid the steep fees charged by most banks and financial institutions for wire transfers and completed in the most expedient manner, immediately.

Central to the genius of the initial cryptocurrency, Bitcoin, is the block chain it uses to store an online ledger of all the transactions that have ever been conducted using bitcoins, providing a data structure for this ledger that is exposed to a limited threat from hackers and can be copied across all computers running Bitcoin software. Many experts see this block chain as having important uses in technologies, such as online voting and crowdfunding, and major financial institutions such as JP Morgan Chase see potential in cryptocurrencies to lower transaction costs by making payment processing more efficient.

As reported online by theguardian.com on 1st July 2017, that “On 19th June 2017, the International Monetary Fund issued a staff discussion note stating that banks should consider investing in cryptocurrencies, saying; “Rapid advances in digital technology are transforming the financial services landscape, creating opportunities and challenges for consumers, service providers and regulators alike”.

However, because cryptocurrencies are virtual and do not have a central repository, a digital cryptocurrency balance can be wiped out by a computer crash if a backup copy of the holdings does not exist. Since prices are based on supply and demand, the rate at which a cryptocurrency can be exchanged for another currency can fluctuate widely.

Cryptocurrencies are not immune to the threat of hacking. In Bitcoin's short history, the company has been subject to over 40 thefts, including a few that exceeded $1 million in value. Still, many observers look at cryptocurrencies as hope that a currency can exist that preserves value, facilitates exchange, is more transportable than hard metals, and is outside the influence of central banks and governments.

This is an informative article only and Paris Financial does not make the recommendation that clients should invest in cryptocurrencies or any other financial products without consulting their financial advisors first.

Pat Mannix, Partner, Paris Financial

Follow me on Twitter @mannix_pat

Image courtesy of holohololand at FreeDigitalPhotos.net