Just six months ago, Bitcoin and cryptocurrencies in general were all the rage with an overall market value peaking at about $800 billion. A 450% increase in value over just three months drew attention and investment from both industry insiders as well as many unsophisticated investors. Predictions were rampant about how cryptocurrencies, tokens, and the blockchain would transform the world, and lead to dramatic further increases in value. However, just as quickly as cryptocurrencies made their ascent, their value declined significantly during the first part of this year. CoinMarketCap estimates that there are presently over 1,600 cryptocurrencies and tokens; and yet, the total value is now only around $200 billion – a significant decline but still a sizable sum. Investors are proceeding with greater caution now, and enthusiasm about long-term viability and impact is much more circumspect. Nevertheless, cryptocurrencies – and the blockchain behind them – may eventually evolve and become a powerful tool and medium of exchange.

Earlier this year, Sand Hill’s investment team met with the research and development arm of one of the country’s largest asset managers, who shared that they had conducted thirty pilot projects using the blockchain and that all of them had failed. It was their belief that other large financial institutions had conducted similar pilots with similar results. Their conclusion was perhaps the best use of blockchain is cryptocurrency and their preferred cryptocurrency is Bitcoin. In fact, they describe themselves as “Bitcoin maximalists” and are working with the SEC to become a custodian for Bitcoin. We have met with other asset managers of varying size and experience who are also attempting to work with the SEC to launch products and services related to cryptocurrencies. One of our meetings included partners from a leading law firm for fund managers, who expressed the belief that SEC approval would likely be granted to several firms at once rather than in piecemeal fashion. It is clear that a large number of people are making a substantial effort to overcome the various obstacles that cryptocurrencies face. The CFA Institute, a global association of investment professionals, has observed this and announced in July that they would be adding blockchain and cryptocurrencies to their curriculum for the Chartered Financial Analyst designation.

One primary argument for cryptocurrencies is that they will provide cheaper and quicker ways of transferring value between people and across borders. The removal of bank fees, bid/offer spreads while trading foreign currencies, and waiting times for wires to clear would make transactions much more efficient. This reminds us of the promotion of the euro in the late 90s … and many similar arguments turned out to be right! Belgians no longer convert Irish punts to Belgian francs to price a purchase in Ireland. Trade and the movement of currency is cheaper, easier, and more efficient. However, investors did not miss out on a “must have” investment by foregoing the purchase of euros on day one. On its first day of trading, the euro opened at $1.1682. As of this writing, it is worth $1.1377. Besides, it currently costs $15 to execute a bitcoin transaction – so not cheap. Importantly for U.S. citizens, the IRS views each bitcoin transaction as a taxable event. Obviously, this isn’t an efficient way to conduct small transactions (like buying a pizza). In fact, Stripe, a processor of online payments and early supporter, no longer accepts Bitcoin because of volatility, transaction delays, and high transaction costs.

Another key argument in favor of cryptocurrencies is scarcity. Unlike the euro, where the European Central Bank can simply print more cash, some cryptocurrencies have preset quantity limits. The point being, cryptocurrencies have the potential to function like gold, acting as a store of value and inflation hedge. However, even within a single currency – like Bitcoin – the network can choose to bifurcate or “fork”. For example, in August 2017 Bitcoin forked and suddenly holders owned both Bitcoins and equivalent amounts of Bitcoin Cash tokens. Then in October, they were granted an equal number of Bitcoin Gold tokens. With over 1,600 cryptocurrencies in circulation and the ability of “scarce” coins to suddenly multiply, we are skeptical of the scarcity argument.

Another major problem that even the most ardent crypto enthusiasts acknowledge is that the rapidly increasing number of currencies have attracted many bad actors. In fact, the SATIS Group, a crypto advisory firm, issued a report in July estimating that 80% of all ICOs (Initial Coin Offerings) were scams. Several have legitimately failed, but that 80% number combined with frequent exchange hacks and account holder thefts make it extremely difficult for us to get comfortable with the space, regardless of the above arguments.

Despite our concerns, it is certainly possible that some form of cryptocurrency becomes standardized. Just like other types of social networks, if enough people have faith, then value exists. If it then gets used widely enough as a preferred medium of exchange – requiring others to participate – then it becomes useful and transactional. Nonetheless, current circumstances will keep us on the sidelines for now.