Many of the trips I undertake to educate clients financially take me into several interior towns where the thirst for financial knowledge is growing at an unimaginable pace. And what follows is the summary of one such experience. As I entered the town after a long, arduous drive on meandering roads and blind curves, far from the highway, I was only too glad to have made it to my interim destination. I was met by a very familiar client turned acquaintance who made arrangements for my boarding. A couple of hours later I was at his residence, breaking bread with a few other clients and after the customary exchange of warm pleasantries, the conversation drifted into the world of VDA – Cryptos. Awestruck, appalled and too shocked to speak; I was quickly transported into this virtual world. These clients gave me a run-through of the kind of penetration cryptos have had. “Every household in this district has deployed funds into VDA”, they said to my surprise, and then continued in an even prouder tone that many of them have deployed funds in the region of over Rs. 25 million, adding to the shock I was yet to recover from. “This is what we do for a living these days” he added. Quickly laying down the cup of tea that I was sipping, I ventured to ask them what they “really knew” about VDA. His quick retort was amazing: “1. We have an app that we download, 2. We sign up, and 3. We initiate the transfer of funds and that’s it!” “Money in, profit made, profit withdrawn and converted back into INR. It’s that simple”, he said. To cut a long story short, I realized the truth in his statement of every household being drawn to this lure of the quick, uncertain pot of luck. It was not an understatement, but the truth. I extended my stay there with the sole intent of giving them an insight into the machinations of this new universe.
Blockchain is a term that is most heard these days. From educational courses to investment gurus to market wizards and money managers … the list of folks referencing this term is endless. However, this is the very basis on which VDA are constructed and constitutes the very DNA of the system – its resilience, its robustness and its resonance. I call it the 3R’s. Well then, what is a blockchain? Let me attempt to define this in plain, simple English!
Blockchain is an ever-growing (unending), digital, list of data records. This list is made up of many blocks of data, organized in chronological order (time-sequenced), and each block of data is linked and secured by cryptographic proofs. Data blocks are proofs of transactions for instance, that are verified, and then linked to the list sequentially thus forming a continuous chain of data blocks aka known as the blockchain. This is the core underlying component of most VDA networks.
Now, recall the term “Decentralized” we had used in Part 1. It is the above characteristic of verification that causes VDA to be a decentralized, distributed and therefore a permanent, public, ledger of all previous transactions. The verification can be best related to how we use “soft tokens” to authenticate and verify online banking transactions for fund outflows from our account. Likewise, Blockchain transactions are verified using “keys” (Private keys & public keys) as Blockchain transactions occur within a peer-to-peer network of globally distributed computers (nodes). Each node maintains a copy of the blockchain and contributes to the functioning and security of the network. This is what makes VDA a decentralized digital currency that is borderless, censorship-resistant, and that does not require third-party intermediation. Decentralized Finance or De-fi is finally here!
How is VDA valued? Like currency was first linked to gold (Gold Standard) which was subsequently scrapped at the Bretton-Woods conference in 1944. The agreement at this conference established the USD as the dominant currency. Since then, fiat currency (notes and coins like the ones we have now) has always been benchmarked against the USD. Likewise, VDA, since inception in 2008 was also benchmarked against the USD and continue to remain so, to date. Inflation, non-farm payrolls, the balance of trade, interest rates, geopolitical tensions, elections, etc are some of the factors that govern the value of the USD as they represent data points that reflect the state of the US economy. But unlike these factors, VDA are valued by their technological aspects and economical aspects, as these are the most powerful factors that impact the valuation of VDA.
In my opinion, folks in the crypto space can be divided into two . Those who believe in the potential of blockchain, the technology behind cryptocurrencies. and others, who only speculate on the maximum future value of a crypto asset given the current external factors and the crypto’s intrinsic properties. They also believe in the value of staking one’s wealth on a scarce and valuable asset. Most VDA have inherent codes that “limit” the production to a certain number of coins. And this characteristic renders it comparable to gold as a hedge against inflation owing to its limited supply. The intrinsic value of fiat currencies is found in their use as legal tender, meaning that it is the only medium of exchange with which citizens pay taxes. While the same can’t be said for cryptocurrencies, most of them offer what fiat currencies don’t offer — true scarcity.
Central bank policies are complicated. Attempts to balance a country’s economic output with the money supply will often lead to the oversupply of money. The supply of fiat currencies is technically infinite, while most cryptos have a supply cap. This makes VDA more valuable than fiat currencies. This is the same reason why gold is more valuable than water, even if life cannot exist without it! Cryptocurrencies are also the only assets that have an increasing cost of production, thereby diminishing the rate of supply over time. Combining this factor with the network effect, it seems only natural that the price of cryptos will increase exponentially with time. The knowledge of this should be the driver of herding folks towards VDA rather than the lure of quick returns generated speculatively.
So how does one go about transacting all of this? Just like stocks are exchanged on the stock exchanges (NYSE, FTSE, BSE etc), commodities on the commodity exchanges (LME, COMEX, NYMEX, SGX, MCX etc), VDA or cryptos are transacted on crypto exchanges. Some of the popular ones include Coinbase, Binance, Bitfinex, Kraken etc. Crypto exchanges may be centralized exchanges(CEX), decentralized exchanges(DEX) or hybrid and customers opt for them based on their ease of operation, pricing and governmental regulation. While preference thus far has been leaning towards centralized exchanges as they appear to be “regulated and controlled” thus attempting to ally the fears of investors and offer both fiat to crypto and crypto to crypto transactions, participation in decentralized exchanges (eg IDEX) is gradually creeping up. The DEX offer crypto to crypto transactions only, are “unregulated” and appear risky as erroneous fund transfers cannot be reversed or retracted and are perceived to be slower by transactional speeds, Hybrid Exchanges are the next-gen marketplace for cryptos as they alloy the best features of both the CEXs & DEXs.
Ready to venture in? In India alone, over 20 million people toyed with cryptos in 2021 with an asset valuation of over $US 5.3 billion! If you are all geared up, I would highly recommend that you watch a NETFLIX documentary titled ‘Trust no one’. A gripping documentary on the life of Gerald Cotten, the founder of a crypto company called QuadrigaCX, his death and the mysterious disappearance of over a quarter of a million dollars. It will no doubt highlight the reality of the number of crypto frauds and fraudsters. Back to where we began this episode: I requested that my crypto clients watch this documentary. I sat with them and watched it for the hundredth time, observing their emotions. When it was over, my friend quipped: “One swallow a summer doth not make”. He followed it up with a statement that I carry with me and think about since that day. He said, “we are the last generation to be transacting in fiat currencies”.
All trends appear to be pointing to the truth in this statement and I could not but agree.
