The eye-watering price increases throughout 2017 was a speculators’ delight; but for investors, the spectacular rise in prices, the wave of new cryptocurrency launches and the widespread media excitement all but shouted “speculative bubble”.
Two of the major cryptocurrencies, Bitcoin and Ether, rose by about 1,400% and 9,000% respectively over the calendar year.
But cryptocurrencies have yet to show they offer much more than anonymity and the potential for large price fluctuations. They don't offer income to investors who buy and hold them and establishing a “fair value” for them is close to impossible.
In fact, the surging market in digital coins resembles the dotcom bubble of the late ’90s when any stock even slightly connected to the internet rose tremendously in value regardless of the business case.
In the long run, most tech startups in the ’90s could not justify their asking price and for every eBay, there were at least as many GeoCities and Pets.com.
It's possible that one or more cryptocurrencies might survive and even thrive as the underlying technology and unforeseen applications develop. It’s also possible that cryptocurrencies may disappear altogether and coins currently selling for five-figure amounts may be close to worthless at some point in the near future.
There are those who view cryptocurrencies as a form of digital gold; a potential store of value free from manipulation by governments and central banks.
Bitcoin – which, like gold, has a limited supply (21 million coins) – was a response in part to large-scale economic stimulus programs introduced by central banks after the Global Financial Crisis.
But physical gold has played a role in financial systems and a store of value for thousands of years; cryptocurrencies face some significant challenges in attempting to establish themselves as serious alternatives to gold.
Blockchain shows promise
It’s worth distinguishing between cryptocurrency and its underlying technology, known as Blockchain, which promises to have a significant impact on the financial sector and wider economy over the coming decade.
Major players in the world of digital transactions have invested heavily in it; one consortium is the Enterprise Ethereum Alliance, which has more than 200 members, including companies like Accenture, Microsoft, Cisco and J.P. Morgan.
Applications are also being developed for nonfinancial sectors.
Watch, but don't touch
Although the blockchain technology underlying cryptocurrencies holds significant promise, we don't view cryptocurrencies themselves as a viable investable proposition – either directly, via a futures fund or hedge funds set up to speculate on price movements.
We suggest investors sit it out and marvel as the story unfolds.