The investor’s guide to cryptocurrency [part 2]

Hodl Team
Hodl Team
20 April 2022

Bitcoin as a new currency

Welcome to our Investor’s guide to cryptocurrency. In this second part, we will learn how Bitcoin became the new currency, sparking a revolution of innovative technology and decentralised money. Continue reading to find your way into cryptocurrency investing.

The right timing for Bitcoin

The discontent that followed the financial crisis of 2008 created a window of opportunity for the next step in our monetary evolution. The pseudonym Satoshi Nakamoto seized the momentum and published the Bitcoin whitepaper shortly after the start of the crisis. This document discussed a new peer-to-peer electronic cash system that would solve the issues underlying the current monetary system. This is how this cryptocurrency was born.

One of the critical elements for the success of Bitcoin was its impeccable timing. It was no coincidence that its whitepaper was released shortly after the start of the financial crisis.

This whitepaper was supposedly ready in 2007 but needed the right timing for the perfect execution. Our traditional finance system was losing trust, and the demand for alternatives was more significant than ever. Satoshi pulled the trigger. He released the document in October 2008, and Bitcoins’ network eventually went live on January 3rd, 2009.

The concept of decentralised money

For decades, people have been developing digital alternatives to our traditional financial system. All without success, until the iteration of Bitcoin. Several precursors to it have already tried to implement a digital currency framework but failed to integrate the necessary decentralization.

When Satoshi invented Bitcoin, he combined the strength of blockchain with the characteristics of proof-of-work, a system built in the 90s to prevent spam attacks. This created a transparent and decentralized ledger in which all transactions and balances are open for everyone to view.

Understanding Blockchain Technology

Satoshi managed to build Bitcoins’ protocol by implementing blockchain technology. A blockchain is often considered a sharable database, but the main difference with regular storage is the way it is structured. Usually, data is stored in the form of a table; with blockchain, as its name already says, it is stored in a chain of consecutive blocks.

A significant advantage of blockchain is how it decentralizes stored data. Storing the data on thousands of computers, also known as nodes, prevents malicious entities from making alterations as other nodes would confirm that the data is incorrect. This system creates an irreversible, transparent and secure network with the structure.

In our traditional banking system a central authority, for example a bank, verifies incoming and outgoing transactions in our traditional banking system. Due to the lack of central control in the Bitcoin network, there needs to be an alternative method to verify whether a transaction is valid. To achieve this, Satoshi implemented the consensus mechanism proof-of-work (PoW). This mechanism requires mathematical proof to establish an agreement between all. This mechanism requires mathematical proof in order to establish an agreement between all parties.

The consensus mechanism allows the network to be decentralized and avoid the need for trust in a single point of failure (the bank).

Computers must resolve a mathematical puzzle to create a new block full of transactions. Bitcoin’s network consists of thousands of computers trying to solve this puzzle. Thus, they receive new coins. This process is also known as mining, named after the mining of gold.

Once a miner solves the mathematical puzzle and provides their “proof-of-work”, others will verify the outcome to maintain a secure network. They will add the block with transactions to the chain if this is correct. In short, they create an open, secure and trustworthy payment system, combining proof-of-work with the transparency and authenticity of the blockchain.

How Bitcoin’s economics work

Satoshi predetermined the rewards and the Bitcoin supply to create a stable environment. He set the total supply at 21 million Bitcoin. The number of coind released for mining rewards is declining over time, matching the rapid rate of adoption and development in its early stages.

Bitcoin inflation over time

At this moment, miners roughly mined 90% of all Bitcoin; the remaining 10% will take approximately 120 years. This system prevents it from the downfalls of quantitative easing and, in the end, makes it immune to inflation.

Growing adoption of Bitcoin

While the adoption of Bitcoin started slowly in the first few years, we have seen a tremendous acceleration in the last decade. Daily active users have grown to 1 million, and the total amount of cryptocurrency wallets approaches a billion. It is no longer the only cryptocurrency. Now, the current adoption of other cryptocurrencies far exceeds the previously stated numbers.

Bitcoin number of addresses

Bitcoin prices throughout the years

Bitcoin’s price also reflects the adoption growth rate. Its yearly returns have outpaced all traditional markets and commodities, demonstrating how it is an excellent store of value.

Bitcoin prices over time

A maturing Bitcoin market

In 2021, we noticed several signs that the cryptocurrency market is maturing and that this cryptocurrency is here to stay. Big tech companies such as MicroStrategy, Tesla and Block added Bitcoin to their balance sheet. It is also interesting to see the further adoption of crypto in traditional services.

For example, the Massachusetts Mutual Life Insurance Company was one of the first by making a 100 million dollar investment in Bitcoin in late December 2020. Recently, KPMG Canada also revealed to have added Bitcoin, Ethereum and other cryptocurrencies to their balance sheet.

After many years, we have also seen the approval of the first Bitcoin Exchange Traded Funds. An Exchange Traded Fund (ETF) is a financial instrument that institutional investors can use. Through these ETFs, they can now speculate on the price of it.

Another remarkable event was the adoption of Bitcoin as a legal currency. In 2021, El Salvador was the first country to embrace Bitcoin. Several countries have acknowledged that they are now investigating the adoption of it as a currency.

In short …

This section explored how Bitcoin’s arrival started a revolution in the economic landscape in 2009. Its most important contribution is creating a consensus mechanism, which allowed the network to be decentralized and, therefore, avoided the need for trust in a single point of failure, for instance, a bank. Its growing adoption has changed the way we understand investment and finance. In the upcoming article, The investor’s guide to cryptocurrency [part 3], we will continue exploring alternative solutions to traditional investment, introducing new ways to foster opportunities in crypto investment.

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