Intro to Cryptocurrencies

Preface

At the finish of the year 2017, we have seen increased attention to Bitcoin and other Cryptocurrencies. As many people asked me to create a tutorial how to ‘invest in crypto’, I would like to offer you a more complex resource: explanation what a cryptocurrency is and how we should go about it.

Before we begin I would like to point out I am not a financial advisor and these introduction series contain my personal opinions.

Before you buy

It is important to understand that you should never buy anything you do not understand. You have probably stumbled into this introduction because of all the stories of people getting rich with minimal effort. Hoping to get rich quick easily is a straight way to losing money. Remember that you should always take full responsibility for your investments.

Please take some time to dive into the information presented and linked here. It is impossible to process it in one take, and even if you finish, this should not be the end of your research, but only a beginning.

I would like you to always question what you read, seek more information and challenge your opinions. That is the only way to truly gain wealth in free markets.

Cryptocurrencies are cutting edge technology

It means that it is developing as we speak. There are a lot of silly mistakes made and getting started can give you a headache. Adding to that there is a lot of misinformation and market manipulation.

On the other side, you often see projects succeed, prices skyrocket, and future being made.

If you have the stomach for such rollercoasters, you are in for a great adventure!

Important terminology

Before we dive into this extensive introduction, we have to define a lot of important and commonly used terms. If you feel lost, please come back here and make sure you understand the term before moving on.

Cryptocurrency

Also referred as: ‘crypto’, ‘coin’ and sometimes just ‘network’

Every Cryptocurrency is just an accounting network. It is a ledger, preferably without a central authority. It means that transaction history can’t be changed by a single party.

Bitcoin specifically is called ‘money of the internet’, but I prefer ‘internet of money‘. It means that such accounting network is impossible to be shut down or influenced from one place. As in case of the internet, you would have to shut down billions of devices to take it down.

Sucha a network is an exact opposite of banking, where a single authority controls your money and you have to trust them to keep track of your money correctly. The main advantage of Bitcoin network is being trustless – meaning you do not have to trust a single party, but only the network as a whole to use it.

Mining

Is a process of approving transactions. It also assures security of a network. Most coins use Poof of Work algorithm, meaning you have to blindly guess millions of combinations of random numbers to approve several transactions. In exchange for finding a certain combination, Miner gets freshly minted Coins and all the transaction fees paid by users.

This process secures the network history by ensuring that if you want to change a transaction, you would have to approve all the transactions after the modified one, meaning you would have to guess not millions but trillions of unique combinations. It means that every transaction gets more secured every time another transaction is confirmed.

Such process is of course done using computers. Power of a computer is measured by its Hashing Power, meaning how many hashes (said unique combinations) can be computed per second.

Wallet

A wallet is a name for a unique pair of addresses used for receiving and sending transactions. On online wallets like Coinbase, or exchanges like Bitfinex these are automatically generated for you, so you do not have to worry about its generation.

However, when you have a big amount of money in crypto, you do not want to trust such a service to keep your account correct. Cryptocurrency is an accounting network after all. If you generate a wallet address (public key) and send your money there, it will be only accessible by people in possession of the unique private key. That person should be only you.

A great example of how such wallet is generated and secured is just a working example. I recommend using the mobile Coinomi wallet to generate multiple keypairs for several networks at once.

To recover it later, you just write down 16 randomly generated words from a dictionary. That is the secret key to all your money, so keep it safe. 🙂

Blockchain

Kind of technical term, but worth mentioning as it is constantly mentioned in media. The blockchain is a data structure, forming a big, immutable, distributed database.

Tokens

Tokens are simplest to explain as a certificate of ownership. Let us say, that some painter creates an artwork. Then he issues a token in the blockchain, stating the right of ownership, and when he sells the painting, he transfers the rights of ownership to somebody else. This can completely revolutionize credits and digital rights.

Very good example of this is a popular game based on Ethereum, called Cryptokitties. In it, you can breed digital cats to create a brand new cat, that the creator is the owner of and can sell it to anybody else for the negotiable market price.

Investing in crypto – asset vs currency

It is worth mentioning that there are different regulations across the globe, putting different tax codes on using cryptocurrencies. In general, we speak about Bitcoin as an asset-based digital accounting network (as opposed to debt-based physical cash systems).

I prefer to refer to Bitcoin as just cash. It is much easier to send Bitcoin Cash (BCH) to my friends for several cents than deal with physical cash and counting change. In future, the network should be easily taxable as an international currency, effectively reducing taxes.

PS – Bitcoin regulations in Poland (author’s country)

Do I have to buy a whole Bitcoin? It’s so expensive!

Simply: No.

Most cryptos are highly divisible. You can easily send somebody half a cent.

People often say that they would like to invest in Bitcoin, but they cannot afford it. That is just silly. 🙂

There are two Bitcoins. Why?

TLDR – Bitcoin has been censored and crippled, so people used their right to create their own network (fork) and made Bitcoin Great Again under the name Bitcoin Cash.

Long version:

Bitcoin (BTC) had hit its maximum transaction capacity in 2015/2016 due to a constant called Blocksize Limit, put in place at 1MB to prevent spamming transactions on the network. It caused transaction fees to rise, rendering the network more and more unusable for small amount transactions. It pushed Bitcoin network back a few years with adoption, as merchants stopped accepting it because of higher-than-VISA fees.

Instead of just rising Blocksize Limit to 2MB or more, main Bitcoin developers team, called ‘Bitcoin Core’, decided to implement complicated (and possibly patented) feature called Segwit. Also, to not bother with changing the Bitcoin protocol, the feature has been hacked strangely to reuse operations in existing network protocol.

This raised red flags and caused the community to organize and create their own version of Bitcoin with the same history, called Bitcoin Cash (BCH). They immediately raised Blocksize Limit to 8MB, bringing the fees to almost zero. The split happened before Bitcoin Core violated the protocol with Segtwit hacky implementation.

This created two versions of Bitcoin:

  1. Bitcoin Segwit (or just Bitcoin)(BTC) – to this day drowning in high fees (average ~$25 at the time of writing, and that is not the highest seen), with multiple promises to implement much more complex, higher layer solution. Unfortunately, we will have to wait many years to see such a complex structure working.
  2. Bitcoin Cash (BCH) – much closer to the original idea of bitcoin, without all the complex hacks and has many more developers working on it. Also, you can transact it for free, or a few cents and the developers plan on keeping it that way.

My personal takeaway is:

  1. Bitcoin Segwit is overvalued, as it will continue to be transacted less and less. Unused networks tend to die.
  2. Most media sources about Bitcoin Segwit are censored. It is horrible for what Bitcoin tries to stand for.
  3. Bitcoin Cash is great for now and has a great community focusing on actually using it.
  4. I strongly believe in second layer solutions, but these should be implemented patiently, without crippling the network.

If you are interested in detailed history, I recommend diving into the timeline of the scaling debate.

What cryptocurrencies should I buy?

It’s entirely up to you. For now, all cryptos are highly volatile and you should at least know why certain cryptocurrency or token was created. Generally, top 10 currencies at the top of Coinmarketcap are considered to be the safest investment.

I personally really like the following networks:

Bitcoin Cash (BCH)

I believe it to be closest to the original idea of Bitcoin, with a quickly growing community. Its users are eager to spend their coins, effectively adding a lot of underlying value to the network. I think it is strongly undervalued in comparison to Bitcoin Segwit (BTC), which is now mostly used as a speculative investment instrument and has astronomical transaction fees [CITATION NEEDED].

Ethereum (ETH)

Often referenced as ‘Global computer’. It is a development platform for creating autonomous services without a central authority. It’s possible thanks to smart contracts – self-resolving, programmable contracts between multiple parties. It also enables issuing Tokens explained above. To add to that, a big number of popular cryptos is just a collection of tokens within Ethereum platform!

To achieve this, Ethereum uses its own cryptocurrency called Ether. It is used to transact value between users and pay for executing smart contracts.

Monero (XMR)

It is a network based on Bitcoin but with highly improved privacy. Its protocol hides source and destination addresses by default and can even hide transaction amounts.

I value Monero because I strongly believe in the importance of privacy in accounting systems.

IOTA

It is a project mainly focused on bringing the money to the Internet of Things. It uses revolutionary data store called the Tangle (as opposed to Blockchain used by Bitcoin), that could enable the network to process infinitely many transactions simultaneously and get rid of transaction fees.
Proposed use case

Interesting sources of information

For the last year, we have seen an increase in a number of interesting youtube channels, blogs, news articles and other media about crypto. It is mainly due to high variance of economies growing around different coins. Because of the lack of central authority and strong reliance on cutting-edge technology, there is a lot of technological innovation within the communities to deliver interesting daily news updates and even live streams.

I want to share with you my opinion on different sources:

Reddit

Reddit is a well known for its good categorization of quality information into so-called subreddits. Each popular coin has one or more popular subreddits where people organize and share quality information. I encourage you to take a look at following subreddits and deciding whether you want to subscribe them or not:

/r/btc

A great community for open discussion on all Bitcoins with a strong bias towards Bitcoin Cash (BCH). They mainly concentrate on adoption of BCH due to its low fees and encourage everyday spending as a way to strengthen the network.

/r/bitcoin

Another community about bitcoin, concentrating fully on Bitcoin Segwit (BTC) and banning discussions about any other Bitcoin. You can find quality content there, but mind that the discussions are highly manipulated and posters are regularly banned for not aligning with moderator’s opinions. The situation between the btc and bitcoin subreddits are tense, but I choose to participate in the former, without information manipulation and censorship.

/r/eth

Ethereum’s community aligning with its technical nature. There is a lot of discussions on possible platform’s use cases, development and mining instructions and scaling discussions.

Other subreddits
  1. /r/CryptoCurrency
  2. /r/CryptoMarkets
  3. /r/Iota
  4. /r/Monero

Coinmarketcap

Coinmarketcap – I strongly encourage learning what ‘Market Cap’ is, and how to read these tables. Crypto communities treat this page as a scoreboard to compare their networks.

fork.lol

Great resource for comparing BTC to BCH

Privacy in Cryptocurrencies

It is a very important topic that goes back to the roots of why Bitcoin was created. Often when I discuss this topic we talk about money laundering and illegal activities, but I believe it is not enough to give up our financial privacy. After all, nowadays criminals use physical cash to conduct their crimes.

I would like to show you two very interesting talks from Andreas Antonopoulos that helped me shape my opinion:

The following video is highly technical and references Bitcoin’s scaling debate, but has strong points about privacy and serving people:

How to buy

So you have made your mind and picked one or more cryptocurrencies you want to buy and use. Also, you should now be able to explain to an uninformed person why you decided on buying your cryptos.

Building portfolio

When you buy your coins for more than everyday use (eg. to pay for a dinner) and intend to hold your coins as an investment, it is wise to split the money between different networks.

You can call that the rule of ‘not putting all eggs in one basket’ or more professionally, ‘diversification’.

A simple strategy is to split the money evenly, so for example 20% for each of the 5 chosen coins.

You could also assign a higher percentage to your favorite coin.

How you do that is entirely up to you, but I strongly advise to write down your rules and the reasoning why you split it that way. That way you can always return back to this reasoning when the price swings up and down.

Dollar cost averaging

It is a popular strategy for getting used to the risk of high amounts of money invested. It is simple and I highly encourage it:

If you have a $1000 to put into your first cryptos, but you fear losing money, divide your investments into several months – eg. 5*$200, or even 10*$100. This way you get used to the risk and learn to observe how the market behaves, and are much less likely to lose money due to emotions.

Coinbase

Coinbase is a great starting point for newcomers to the crypto world. It allows you to buy Bitcoin, Bitcoin Cash, Litecoin, and Ethereum easily with Visa Card instantly. Once bought it can be stored on Coinbase account or transferred to your wallet (recommended).

Please mind that Coinbase takes fees for instant credit card purchases.

Exchanges

GDAX

It is an exchange sharing the same backends with Coinbase. It is awfully easy to transfer funds between Coinbase and GDAX, and it is the recommended way to trade cryptos available on Coinbase, as you can skip many fees.

Bitfinex

It is one of the most advanced crypto exchanges I have seen, it allows you to place trailing stop orders, explore nice charts inside the application, set alarms and has nice mobile trading app. Also, they have a high variety of cryptos. I personally place most of my trades here.

If you want to trade here, you have to buy crypto somewhere else and send it to exchange.

Bittrex

Less advanced than Bitfinex when it comes to User Experience and ordering, but has a lot more coins. On the downside, I have heard that once you fail to authorize, you cannot register for several months, because of their poor tech support.

If you want to trade here, you have to buy crypto somewhere else and send it to exchange.

Accepting Bitcoin as merchant

If you want to not only buy but also earn Bitcoin as a business owner, there are two ways to do this.

Accept Cryptos directly

With Bitcoin Cash, you can accept transactions without confirmations as these are confirmed within 2-20 minutes and available for you to spend, almost without any fees. It is easy to start by just installing and configuring Coinomi wallet.

In most countries, where Cryptocurrencies are not officially recognized as currency, you do not have to pay VAT for your transactions. In such cases, cryptos are mostly recognized as an asset and can be used in barter trading. If your customer can exchange chicken eggs for your service, they can legally exchange Bitcoin Cash as well. If you decide to sell your coins for fiat money, your company has to pay income tax.

Contact your accountant or seek legal help in your country, to get started.

Use dedicated third party payment processor

Bitpay is an example of service that allows your clients to pay with bitcoin, but you will instantly receive fiat money and do your accounting the same way you are used to.

Such payment processors are similar to VISA and PayPal but should offer you much lower fees.

Real world use case – donations!

If you get this far, you are probably proud owner of some cryptocurrency. If you found the introduction useful you can buy me a coffee with crypto 🙂

Interesting links and sources

  1. Why Bitcoin was invented
  2. Story of /u/adamlh – getting started in Crypto
  3. Polish law about Bitcoin (Polish)
  4. Money as a System-of-Control
  5. Worse than useless – talk on importance of privacy of monetary systems
  6. Evidence of Bitcoin media censorship
  7. ‘Painting the tape’ – price manipulation on crypto exchanges