Cryptocurrencies have seen significant attention recently in the media due to their tremendous growth over the past year. The Cryptocurrency market has risen from US$10 billion at the beginning of the year, to US$160 billion today, reflecting a 1,500% increase in value and with Bitcoin growth contributing to a large portion of this. But what has driven such incredible growth, and is it sustainable? To answer this, we need to first examine what cryptocurrencies are and how they operate.
The following information does not take into account your personal objectives, financial situation or needs. You should consider if the relevant investment is appropriate having regard to your own objectives, financial situation and needs.
The advent of cryptocurrencies began in late 2008 when the unknown founder of Bitcoin operating under the pseudonym Satoshi Nakamoto found a way to achieve something no one else could. Satoshi developed a decentralised digital cash system called a “Peer to Peer Electronic Cash System” which regulated the use of digital currencies without the need of a central authority. This meant that users could make transactions with a digital currency such as bitcoin without having to know or trust the other party.
Prior to this, attempts at creating a completely digital currency failed due to the inability to verify transactions and prevent double spending, a task usually undertaken by banks or other institutions under the current system. Satoshi’s invention created a decentralised network where every entity of the network does the job of validating each transaction to ensure the integrity of the entire system. Each transaction in the network is listed in an immutable digital ledger and every new transaction is added to this ledger creating a “blockchain”, a record of every transaction ever made by a digital currency.
Without going into too much technical detail of the validation process, cryptocurrencies such as Bitcoin or Ether all consist of a network of peers. Each peer on the network holds a complete ledger of every transaction made and the balance of every account. When a transaction is made between two parties a transaction file is signed bearing the private keys of the parties and is broadcasted across the network. This transaction is immediately known by every peer and is confirmed by special peers in the network called “miners”. Only miners can confirm transactions and once a transaction is confirmed every node adds it to their database making it a part of the blockchain. Miners are rewarded for their work and are given a token of the cryptocurrency, such as Bitcoin.
The blockchain ensured autonomous, instantaneous and reliable accounting of Bitcoin transactions using digital cryptography.This was the real genius behind Satoshi’s invention and this paved the way for a whole new era of digital financial innovation. What followed was a completely reliable method of instantaneous transactions with the ability to settle in real time with no counter party risk and reduced transaction costs.
The future of blockchains
Knowing that the blockchain makes it possible to create an automated system of maintaining a ledger for transactions, the next step is to ask what other kinds of financial transactions could it potentially keep track of? Further if blockchain allows for automatic transactions, what other kinds of transactions could it automate?
The potential for blockchains is exciting and seemingly limitless. Direct transactions eliminate the concern of late payments, as validation is instantaneous and in real time, freeing up time and capital. Further transaction costs would be reduced significantly as banks no longer need to spend on infrastructure to validate and settle each transaction, thus allowing for smaller payments and making more business models accessible. Further investors could make trades, which are settled in real-time, freeing up capital for investment and reducing the likelihood of transaction errors.
One of the more exciting additions to the blockchain capabilities is the creation of “smart contracts”. Financial agreements are usually complex and rely on a third party (escrow agreements) to ensure each party lives up to their end of the bargain. When using blockchains, specific conditions can be programmed into the ledger (the creation of a smart contract), which can remove the need for a third party. They can be programmed to make autonomous decisions about buying and selling when certain conditions are met and thus operate without any external control.
When smart contracts are combined with the Internet of Things, they would have the ability to simplify entire supply chain processes. For instance, goods being shipped could have a receiver to notify when they are delivered, when the recipient receives the goods the receiver would send verification to the sender and automatically unlocks funds that had been send to the contract prior which were held pending delivery. All this would be achieved without the need of a third party and completely automated, to provide faster and cheaper access to funds.
One of the key drivers for the growth in the cryptocurrency market over the last year can be attributed to innovation and a greater understanding of the potential of blockchains. Its numerous applications can be applied to business processes that open up new business models and allow businesses to provide better services at lower costs.
How you can we benefit from this trend?
As the potential of cryptocurrencies and blockchains are slowly being realised, many banks, institutions and even countries are slowly incorporating cryptocurrencies into their services. Bitcoin has start edits own money transfer service, far superior to Western Union or Money Gram in terms of speed and cost, contributing significantly to its stellar growth pattern. Further, Japan has formally recognised Bitcoin as a financial tool and has passed specific rules outlining the regulations that apply to cryptocurrencies. Furthermore, Estonia has discussed the idea of issuing crypto tokens via an initial coin offering (ICO) to raise money for the nation.
There has also been a push to create open-source distributed ledgers for business. The two that stand out are the Ethereum Alliance and the Hyperledger. The Ethereum Alliance being is driven by Microsoft (MFST US) and is supported by thirty banks and tech giants including the likes of JPMorgan Chase (JPM US) and Intel (INTC US). The Ethereum Alliance allows Microsoft to provide a large scale, confidential blockchain network called the Confidential Consortium (Coco) framework, for companies and organisations to use through the Ethereum cryptocurrency. Its focus is on reducing transaction times, increasing confidentiality in transactions and maintaining distributed governance. Microsoft has stated that this system was designed for specific and confidential consortiums where the nodes and miners are explicitly declared and controlled. Microsoft’s Coco framework will be capable of processing 1,600 transactions per second once integrated into a blockchain network.
IBM (IBM US) is also providing similar blockchain solutions and is a big driver behind the Hyperledger project. A global initiative to create an open standardised grade distributed ledger framework for business, supported by leaders in finance, banking, Internet of Things, supply chain and technology. IBM’s contribution comes in the form of the Hyperledger Fabric, a business blockchain framework, which acts as the foundation for developing the blockchain applications and solutions of the Hyperledger.
Despite all the excitement and buzz, there is still plenty of uncertainties surrounding cryptocurrencies. The real value of cryptocurrencies is very difficult to predict and as of late much of the demand is driven by speculation and not from any practical uses, making it a highly risky investment. Investing in companies focused on cryptocurrencies and managing blockchains such as IBM and Microsoft are a safer albeit less direct way of gaining exposure to this Trend.
Longer term, we believe cryptocurrencies will find their place in the future-time will tell if they are adopted at mass scale and to the extent that they could change the global economy.
At the time of writing, the AtlasTrend Big Data Big Fund owns shares in IBM. For more insights on big data as an investment trend and access to invest in the AtlasTrend Big Data Big Fund, sign up for a free 30 day trial.