The Dangers of Bitcoin

In 2014, the Consumer Financial Protection Bureau (CFPB) warned consumers about the dangers of Bitcoin (BTC). According to the CFPB, Bitcoin users were liable to encounter “unclear costs, volatile exchange rates, the threat of hacking and scams.” Refunds were also hard to obtain.

So, have things improved since then? In short, not really. Bitcoin is still volatile, and it’s still not backed by any government or central bank, so it remains a risky way to invest.

In this article, we’ll explore some of the biggest risks of investing in anycryptocurrency—including newer currencies like Dogecoin. Not sure what cryptocurrency is? No problem—we’ll begin with a short primer on digital currency.

What Is Cryptocurrency?

Cryptocurrency is virtual currency. Instead of physical coins, cryptocurrency creates virtual tender with encrypted digital code. Your “coin” is a string of code stored in a blockchain—in other words, held on a physical server. Because it’s secured via cryptography, people can’t copy cryptocurrency or spend it twice.

Cryptocurrency is a decentralized currency created by computer “mining.” In contrast, traditional money—also known as fiat money—is money issued by a government. The Latin word fiat means “let it be done.” In monetary terms, fiat currency has value because its issuing government and international governments agree that it has value.

If that sounds complicated, that’s because it is. Cryptocurrency is meant to be hard to forge and hard to destroy—and it’s quite hard to understand because it’s not a physical “thing.” Like fiat currency, its worth depends on consumer trust. When consumers losetrust in cryptocurrency, its value plummets.

The Big Problem With Bitcoin

To be taken seriously as valuable money, currency has to maintain value over time. It’s no good, for instance, if you sell a guitar for $300 and the money you receive is worth the equivalent of $30 a week later. This stability rule applies to both fiat currency andcryptocurrencies like Bitcoin.

Bitcoin aficionados claim that virtual currency is just the next stage in monetary evolution. Salt and cowrie shells gave way to gold, which transitioned to fiat currency in the early 20th century, they say. Fiat currency, then, will naturally evolve into digital currency. According to virtual currency enthusiasts, Bitcoin volatility will eventually die down.

Industry experts at the CFPB disagree with that assessment somewhat. “Virtual currencies are not backed by any government or central bank, and at this point consumers are stepping into the Wild West when they engage in the market,” said CFPB Director Richard Cordray.

A Case Study in Bitcoin

Bitcoin volatility is legendary. Invented in 2008 and launched in 2009, Bitcoin had an initial value of $0. In early 2010, investors were able to buy a single Bitcoin for $0.0008. Later that year, its value jumped to $0.08. Early investors made bank—those with an initial investment of $100, for instance, suddenly held $10,000 in Bitcoin.

Over the next few years, Bitcoin value increased exponentially. There were setbacks, however. The first major Bitcoin crash happened in 2018, when the cryptocurrency lost more than 65% of its value in a matter of months. People who’d invested nearly $20,000 in a single coin in 2017 ended up with a little over $3,000 at the end of 2018.

In 2019, Bitcoin’s value began to build again—until the middle of the year, when it began to deflate again. The COVID-19 pandemic in 2020 coincided with another period of unprecedented growth for the cryptocurrency, and in January 2021, a single Bitcoin sold for $41,528.

Three days later, Bitcoin value fell to $30,525.39—effective a 25% loss for anyone who’d bought the currency 72 hours earlier. Investors hoping for an endless surge were disappointed and upset. Bitcoin subsequently recovered its value, soaring to nearly $65,000 a coin over the next quarter. Shortly after that, it crashed again. New investors in April lost more than half the money they put into the cryptocurrency less than a month later.

What Are the Dangers of Investing in Bitcoin?

Bitcoin investors say they’re in it partly for the white-knuckle ride. If you’re hoping to boost your retirement portfolio, however, cryptocurrency might not prove lucrative in the long term. “Because virtual currency accounts are not insured by the Federal Deposit Insurance Corporation or the National Credit Union Share Insurance Fund, if a virtual currency company fails—and many have—the government will not cover the loss,” the CFPB said in 2014.

In layman’s terms, that means that if you take a substantial portion of your 401(k) and invest it in Bitcoin, you’ll lose it all if the currency crashes and doesn’trecover. Bitcoin value is based on consumer trust—investments in the currency are based on blind faith.

Can You Lose All Your Money in Bitcoin?

In a nutshell, you probably won’t lose all your money if you invest in Bitcoin. After all, even if the currency crashes completely, it’s unlikely to lose all its value. That’s small comfort, though, to consumers who put $100,000 into the currency in April 2021 only to see their investments halved less than a month later.

The Biggest Bitcoin Issues

In its 2014 statement, the CFPB said it would begin to accept complaints about virtual currencies, including Bitcoin. At the same time, blockchain contributors at Forbes magazine predicted that the currency would crash again—and they were right.

Essentially, the biggest issues with Bitcoin, and with other virtual currencies like Dogecoin (DOGE) and Ethereum (ETH), are as follows:

Volatile exchange rates: Bitcoin crashes can wipe as much as 65% or more off the value of the currency. If you’re not ready or able to weather extreme volatility, cryptocurrencies might not be the right investment for you.
Variable fees: Some companies charge investors when they convert Bitcoin into fiat currency. Trading fees on PayPal, for instance, can be as high as 2.3%. Research markups, fees and costs associated with buying, spending or accepting Bitcoin as payment whenever you interact with an unfamiliar platform.
Hackers and scammers: Cryptocurrencies regularly fall victim to sophisticated hackers, and Bitcoin scams are common. Individuals, digital wallet providers and exchanges are all at risk. If a scammer gets hold of your private 64-character private key, you could lose all your virtual currency. Beware of phishing and smishing campaigns created by false Bitcoin exchanges, intermediaries and traders.
Refunds are hard to obtain: Some virtual currency companies don’t identify their owners or provide customer service phone numbers or addresses. Others don’t specify where they’re located and don’t offer assistance if funds are lost or stolen. If you decide to invest in Bitcoin, choose a trustworthy, well-known currency broker and get familiar with your contractual rights.

Alternatives to Bitcoin

If you want to invest but aren’t ready to spring for cryptocurrency yet, there are alternatives. Here are three great DIY investment options:

Acorns: Acorns is a nifty micro-investing app. You can use Acorns to invest spare change—manually or automatically—and to learn more about the principles of investing. The Acorns platform also includes IRA products, so you can use it to supplement your retirement savings.
Robinhood: Want to dip your toe into trading? If so, check out Robinhood. You can use the service to trade stocks and exchange traded funds (ETFs) listed on the New York Stock Exchange or the Nasdaq. Any funds you invest with Robinhood are protected under Securities Investor Protection Corporation (SIPC) rules.
Ellevest: Ellevest is a financial company for women+. Starting at just $1/month, the Ellevest membership is built to help you reach your money and career goals with investing tools, one-on-one coaching, and more.

Cryptocurrency in the Future

In March 2021, Goldman Sachs’ global head of digital assets, Mathew McDermott, said he considered digital currencies a permanent addition to banking. Other financial players, like former CFPB deputy director Raj Date, agree. After resigning from the CFPB in 2012, Date joined the board of cryptocurrency firm Circle.

“The thing I like about innovatio n in consumer finance, like Bitcoin, like digital currency, is exactly the same reason I went to the CFPB. How is it that you can take new ideas and make the system work better for people?” Date said in April 2014.

If you decide to invest in Bitcoin, make sure you research your holding company and your broker, and be prepared for a bumpy ride. If you’d prefer to build a more stable portfolio, stick to fiat currency and reliable stocks and shares.