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Newbie FAQ on Bitcoin and Digital Cryptocurrency

This is a living document, I intend to come back and add to it and revise it as time goes on and as I see fit.

Missed Opportunities

I became somewhat obsessed with Bitcoin and digital cryptocurrencies recently, and a lot of people don't understand.

I first discovered Bitcoin in 2009. I am not kidding. No I am not rich.

I read the whitepaper after it came out on Slashdot. It was mostly over my head at the time. With the foresight of a penguin, my thoughts were something along the lines of “This sounds like a pyramid scheme. Let's just see how it plays out.”

I then forgot about it, and never went back to check on it until 2012. By this time it was starting to pick up some traction, and was becoming ever more hard to ignore. But it's true value still hadn't fully sunk in.

I tinkered around with it. Bought a few things. Owned a couple hundred Bitcoin at one point, which I bought specifically for a purchase. Still the reality had not yet sank in.

It didn't sink in until around February of 2013. As I sat and watched this asset, which I had previously purchased and long since spent for 3-10 dollars a coin, rise in value past fifty, then a hundred dollars, and I realized that I had missed out on a tremendous investment opportunity.

Or had I?

This thing could not be ignored any longer. It had grabbed my attention. I was now compelled to figure out what had caused this thing to go up in price so quickly, and is it done?

I began to investigate, reading everything I could find on the subject. One can gleam an awful lot just from reading posts on the Bitcointalk forums. Took another look at the white paper, I won't lie, most of it was still over my head. But pairing it with information I had pieced together bit by bit, from hours of going through forum posts, and visiting Bitcoin related news site like Coindesk, which I stumbled across in the Press section.

The blockchain

The thing that actually makes Bitcoin groundbreaking is that it solves the doublespend problem without requiring a trusted third party. In the current financial structure, and in most attempts to create online currencies, the currency can only be unique with the help of a middleman to prevent doublespends. Which is where Visa and Mastercard have carved their current niche.

With the blockchain came the ability to delegate the job of deciding which transactions are valid, and which are not to a decentralized network comprised of nodes and miners. There is nobody to run off with your money once it's on the network because everybody participating has a copy of this blockchain. That's why people who know how to write code can confidently tell you that Bitcoin is impossible to counterfeit.

A blockchain is a shared public ledger of all bitcoin transactions ever. The blockchain is the concept that makes this a truly groundbreaking technology, because of this everyone running a node in the network has proof that your bitcoin belongs to whoever holds that private key because everybody has a copy of the blockchain. It's possible to use cryptography to double check any transaction against the public ledger as it gets announced and added to a block. The algorithms make it limited in supply, and the blockchain makes it impossible to counterfeit or double-spend.

So you're sure it's not a pyramid scheme?

Yes. I am.

But you're 100% within your rights to be suspicious. Wise for it in fact. An awful lot of people out there are after your money, and will try anything under the sun to obtain it.

The difference between a pyramid scheme and a commodity is that you own a commodity, and always have access to it. A pyramid scheme relies on trust that there will be a new, larger influx of people to support those who previously profited. At some point a pyramid scheme has to break down and the people in the beginning run off with all the money.

The price of whatever we're talking about investing in for a pyramid scheme (and by invest, I mean trusting somebody with your money) is unsustainable because it's based purely on speculative demand. Much of Bitcoin price is also based on speculation for now, sure, but the difference here is that value is also maintained by demand from people seeking out crypto to actually buy things with.

Bitcoin is almost a pyramid scheme

It has a unit of account that people invest in, the price of which is based on supply and demand. When you buy a Bitcoin, you get a Bitcoin. When you buy into a pyramid scheme you get a piece of paper promising you have a share of the scheme. Profiting from Bitcoin speculation means to hold the Bitcoin until the price has increased from more people buying into it, and then sell it to anybody whose willing to buy, such as a legitimate business dealing in buying and selling of crypto. Profiting from a pyramid scheme involves holding your share until the price has increased from having more people buy into it, then going back and selling your share to the guy who sold it to you if he hasn't disappeared yet.

As described above, the thing that sets Bitcoin apart from a pyramid or any kind of ponzi is this blockchain, which allows for settlement to be handled in real time by the P2P established by the client software and miners who participate.

So why trust that?

Well, alright. That's a fair point. The technology is only four years old. So for even just that reason you probably shouldn't trust it with more than you're willing to lose.

At the same time, the risk and uncertainty of using a technology that hasn't yet stood the test of time as money is what makes profit from Bitcoin speculation possible. If there was no risk involved with this, all the rich people would have already bought in and the price would already be too high for the common man to really buy in.

The blockchain works because there's always many nodes with a current version of the ledger running. The network accepts the first transaction it confirms as valid. If a transaction broadcast to the network is invalid, it doesn't get added to the ledger which is constantly always being double checked by miners. The miners use modern cryptography to ensure that the money being spent is there to be spent. If you don't know much about modern cryptography, suffice it to say for this article that it's pretty darn strong. I'll let you research that subject out for yourself because the nuances are probably still a little bit over my head.

Cool... so why trust any software to do what Visa does?

The computer code, which is the logic fed to the computer by a human to tell it what you want the computer to do when you click “Bitcoin,” makes digital cryptocurrencies and the blockchain possible, and is open source. Open source software has been around a long time. This is just my opinion formed from observation over the years, but I've always found open source software to run much more reliably, with fewer errors and hangups than it's commercially developed, closed source counterparts. If Bitcoin's source code were closed nobody would be able to trust it, and it would just be an automated credit platform. Open source code also allows for the world at large to audit the code and submit bug fixes and security patches. This allows for faster innovation than an environment with only the folks being paid to make software working to keep it current and secure.

Because the code is publicly available to anybody for viewing, anybody is welcome to go audit it. At this point there's ten billion dollars invested into Bitcoin. This is plenty of motivation for the most talented criminals on earth to attempt to somehow compromise the integrity of the Bitcoin network. Nonetheless, Bitcoin has continued for four years without a single breach.

Also, venture capitalists have now invested in startup companies with a business model that has something to do with Bitcoin, which means those people have hired people to audit the code as well.

Having just explained that I will at this point reiterate the fact that Bitcoin is not a pyramid scheme.

Why is the price so volatile?

That's because it's still so young. The market cap, which is the current price for a Bitcoin multiplied by the number of coins in existence, is a measure of how much money people have invested in it. At the moment it's about ten billion, which is not very much at all. To illustrate this point, gold's market is cap is thousands of billions (trillions), and the price is much more stable. Silver's market cap is much higher than Bitcoin's (hundreds of billions) but much smaller than golds, and you can see from history that silver is much more stable than Bitcoin, but more volatile than gold.

With such a small market cap, a wealthy investor is capable of manipulating the bitcoin market, causing the price to go down if they sell, or go up if they buy, which influences the way other people in the market behave with their buying and selling.

That's why the price is always going up and down. It's worth noting, however, that this is the first time in centuries that we've witnessed the birth of an entirely new asset class like this. As Bitcoin continues to become more popular the way it has been and infrastructure continues to be built around it, and people start to use it more commonly use it for it's intended purpose, then the market cap is likely to go up to something more respectable for a commodity. Once this happens, stability will be natural. That's why “the price is too volatile for Bitcoin to be used as a serious currency,” is not a valid crticism.

Due to this early volatility though, somebody investing in Bitcoin should be aware of what it is they're putting money into.

So can I lose money off this?

Yes you can. If you buy and hold bitcoin to invest in, and the price falls, as described above, and you see fit to sell before the price goes back up, then yes, you absolutely can lose money trying to play the market.

If you're investing for speculation, you'd be best advised to hold long term. In the four years of Bitcoin, nobody who has bought and held for at least a period of a year has lost money, even at peaks. This is no guarantee that the future will be the same. That's for you to consider for yourself if you're thinking about investing.

Most people who've formed an opinion this early think this is either going to go to the moon, or to zero.

Suppose a different cryptocurrency like Bitcoin but improved catches on, this could cause Bitcoin to not rise as high as projected. Peercoin is one such viable alternative that I could see catching on.

Somebody thinking about buying Bitcoin for the first time would do well to google for “bitcoin risks,” and learn as much about the subject as possible.

So is there money to be made off this?

Yes there is. Most people haven't ever even heard of this new technology yet. If Bitcoin grows to be commonly used, then the price inevitably has a very long way to continue rising. If you buy now, and have the patience to hold until then, you could make an awful lot of money out of this thing.

E-Currency | Cryptocurrency | Bitcoin


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