Another Bubble To Beware Of: Bitcoins

BitcoinIt’s been a while since we’ve had a decent investment bubble. That’s if you don’t count the bond bubble which is still on-going and still inflating.

But the one thing that you can always count on is that where human nature is concerned, there will always be bubbles. So as sure as eggs are eggs, another air-filled scheme has appeared on the scene to help relieve unsuspecting investors of their money.

If truth be known, bubbles have existed as far back as 1623 when Tulipmania gripped the Netherlands. At that time, a single tulip bulb was selling for seven times the average annual wage. What’s more, tulip farmers were selling tulips that hadn’t even been planted. But for no particular reason, the price of tulips began to fall in 1637. Within days, thousands of tulip traders were ruined.

Tulipmania is only one of many bubbles that have caught investors on the hop. Others include The South Sea Company, Victorian Railways and Internet shares. But many people succumb to bubbles time after time. And now we have Bitcoins.

In case you haven’t heard, Bitcoins are a digital currency that is generated by computers through a process known as “mining”. You can buy Bitcoins through online exchanges and store the coins in a virtual wallet so you can use the “coins” later on to buy goods.

But what makes Bitcoins special is that their value can change with demand. Last year one Bitcoins would set you back around $10 but today the same coin would cost around $100.

A 900% return might seem too good to be true. But that is how exactly how bubbles are formed. It draws in unsuspecting people because it seems that everyone is making money apart from you.

However, it is vital not to be drawn in because “bubble” logic can lead you to believe that growth could carry on for many years. Often these projections are made using “finger-in-the-air” analysis rather than sound analysis. Consequently, growth could come to an abrupt halt without warning.

Unlike buying shares in a business, which has an intrinsic value, Bitcoins can only be valued based on its social acceptability. Proponents of Bitcoins might say that they are more reliable than fiat currency. But then I am not a great fan of holding cash – I would much rather be invested in shares.

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The information provided is for general information purposes only and is not intended to be personalised investment or financial advice. Motley Fool Singapore Director David Kuo doesn’t own shares in any companies mentioned.