Everything You Want to Know About Cryptocurrency, Simplified
When cryptocurrency first hit the mainstream, many thought it’d be fleeting. But today banks and investment firms are looking for ways to incorporate cryptocurrency into their businesses.
At the beginning of 2018, the global cryptocurrency market surpassed $700 billion. Cryptocurrency is no longer just for tech nerds or frequenters of the dark web.
While cryptocurrency may not be humanity’s currency of choice, it is a forward-thinking invention that deserves its place in the financial market. In order for that to happen, more people need to understand what it is and how it works.
“Virtual currencies, perhaps most notably Bitcoin, have captured the imagination of some, struck fear among others, and confused the heck out of the rest of us.” – Thomas Carper, US Senator
What is cryptocurrency?
Cryptocurrency is a decentralized cash system that is stored in a digital wallet. At its core, it’s much like a bank account–a series of transactions within a database–but there isn’t a central bank or planning body regulating its value, the quantity in the market, or the activities for which it can be used. What makes it so appealing is that anyone anywhere can have an account simply by downloading software to their computer.
Because it isn’t a physical currency, you can take it with you anywhere you go as long as you have access to your digital wallet via your computer or phone. In addition, all transactions are anonymous and completed almost instantly, and after they are verified, there is no way to reverse them.
How does cryptocurrency work?
To understand how cryptocurrency works, it helps to compare it to something we all understand–banks. In a bank, you have a central server monitoring accounts and recording transactions. But because cryptocurrency is decentralized, the “server” used is the combination of all the computers in the network.
It’s like a file sharing system, which works by harnessing the power of everyone using the system in order to share content between their computers. With cryptocurrency, transactions are carried out by harnessing the processing power of the computers in the cryptocurrency network, making the need for a central server unnecessary.
Is cryptocurrency secure?
In our digital age, online banking has become increasingly appealing, but consumers are finding that it isn’t always secure. So how can a wallet that is entirely digital be kept safe? Cryptocurrency funds are stored in the equivalent of an online bank vault, but instead of being protected by a 6-ton steel door, the funds are protected by the highest levels of cryptography. Anyone accessing their funds needs a private key that is usually a couple dozen digits long, meaning that even the most advanced hacking algorithms running 24/7 on a supercomputer would still take too long to crack it.
How is cryptocurrency created?
Mining is the process of validating cryptocurrency transactions. When cryptocurrency users request a transaction, they verify it with their private key, and then it goes out to the network. The transaction has to be verified for it to become a permanent part of the database of transactions, also called a blockchain.
The computers that validate the transaction are doing intense processing work, and for that reason, the owners of these computers are paid an amount of cryptocurrency, like Bitcoin, for loaning out their processing power. The currency in which they are paid is based on the company requesting the transaction, and the amount the miners are paid is based on the demand for transactions, the supply of computers in the network, and the complexity of the transactions needing to be validated.
Why are there so many different cryptocurrencies?
Cryptocurrency is a little like stock. A company issues stock to raise capital; in exchange for your money, you receive a certain number of shares in the company. As the company invests your money and becomes more valuable, your shares of stock become more valuable as well. Many different companies issue stock and each company uses the funds from the sale of shares to further its unique vision.
In a similar manner, companies issue cryptocurrency as their own form of “stock.” Each different cryptocurrency backs the vision of a different company. Some companies are interested in creating cheaper cross-border transactions, some are interested in AI research and development, and some are just trying to invent a new currency. Regardless of the vision, when you purchase a particular cryptocurrency, you are purchasing value in the company that issued it.
What determines the value of a cryptocurrency?
Like shares of stock, the value of a particular cryptocurrency depends on the total supply of coins issued and the total demand for the coin. If demand goes up and supply stays the same, the value of the coin will increase because it can be sold for a higher and higher price; inversely, if demand goes down or the supply goes up, the coin becomes less valuable.
If you want to see this in action, check out GDAX, an online cryptocurrency exchange that shows real-time changes in the price of many different cryptocurrencies. One the right side of the screen above the confusing graph, click on “Depth Chart,” and you will be able to see the demand (the left side of the center line) and the supply (the right side of the center line) changing and the effect those changes have on the price of that particular cryptocurrency. It’s wonderfully mesmerizing.
The monetary value of cryptocurrency can be described in many different ways. It can be given in relation to a physical currency, like the dollar, or in relation to the value of Bitcoin, the first and most famous cryptocurrency. When you sell a type of cryptocurrency, you can purchase physical currency or other cryptocurrencies.
Is cryptocurrency a good investment?
Cryptocurrency is not a safe investment strategy. Because cryptocurrency isn’t backed by any physical asset or regulated by a central authority, there is nothing holding its value steady. The cryptocurrency market operates as a perfect market economy, meaning it is bound completely by the laws of supply and demand.
That isn’t to say that you can’t make a lot of money. I know someone who made $40,000 in capital gains in 2017, but these gains tend to be more of a carefully-calculated gamble than a solid investment. As any great investor will tell you, you can’t time the market. That $40,000 all but disappeared during an unprecedented cryptocurrency market downturn at the beginning of 2018.
If you want to invest, use an investment strategy that has proven to be successful, such as the stock market.
So how does this all play out in practice?
Now that your head is swimming, I’ll give you a practical example of how this cryptocurrency stuff works.
My husband and I mine cryptocurrency. Contrary to what many people think, this does not mean that we mine Bitcoin. The Bitcoin blockchain, the database of transactions, has become so large and complex that it is almost impossible to mine it, so we mine other cryptocurrencies, such as Ethereum, Zcash, and Litecoin.
While anyone can mine, you do need special equipment and an understanding of computer hardware. You can use either a computer processor (CPU), which is the brain of your computer, or a graphics card (GPU), which translates information from your CPU into pictures. However, to mine efficiently, you need the latest models of CPUs and GPUs, which can be pricey. You also need a computer power supply with enough power to handle the load. These high-quality components are usually found in gaming computers, which is why so many gamers are also miners.
So without further ado, I would like to introduce you to Blue Sky (my husband’s computer), Rosie the Riveter (my computer), and our very homemade mining rig.
My husband’s hobby is building custom gaming computers, so we already had the knowledge and equipment to mine when we decided to take the plunge. Once we started making some money, we invested $2,500 in four more graphics cards, and we built the mining rig. Because my husband is an enthusiast, we always have enough spare hardware lying around to build an entire computer, which kept our initial investment very low.
Currently, we have 2 CPUs and 8 GPUs mining 24/7. We have more GPUs than CPUs because the GPUs make more when you factor in purchase price, power draw, and income. We use a mining software called NiceHash to mine various different currencies depending on what is most profitable at any given time. Once we open NiceHash, we literally press a button to start mining and then go about our lives. It really is that simple.
While mining seems like a super easy way to make money, it does have its downsides.
- Mining requires an incredible amount of work from the CPUs and GPUs, so our computers run much slower than they otherwise would, given the quality of the hardware.
- Mining requires a ton of power, which costs us about $250 a month.
- Lots of power creates lots of heat, so much heat, in fact, that we don’t run our heater during cold Midwest winters but roast during the summer.
So is cryptocurrency worth it?
Below is a spreadsheet of the income we have made per month over the last eight months. Since we purchased more GPUs in January, I included a column showing the average earned by per miner to account for the change in total number of miners.
As you can see, our income varies depending on how well the cryptocurrency market is performing. January was a great month because Bitcoin hit an all-time high, but April was a bust. Remember that we invested $2,500 in additional miners, so we’ve only actually made $82.96. That said, I don’t know of any other investment that will return over 100% in just eight months.
As previously stated, cryptocurrency isn’t a wise investment, so we tend to sell the coins as soon as we earn them. That said, we have sometimes held onto certain coins to try to play the market, and while we have realized some gains, they have been offset by losses.
Mining isn’t going to make us rich, but it is an easy, low-maintenance way to make money. If you are interested in mining, I highly suggest learning as much as you can about the hardware and processes involved as well as the cryptocurrency market itself. If you already have the necessary hardware, head over to What To Mine to find out what your specific hardware can generate.
When cryptocurrency first hit the mainstream, many thought it’d be fleeting, but it has proven its usefulness and popularity to the point that banks and investment firms are looking for ways to incorporate it into their businesses.
While I can’t possibly go into all the technical details of cryptocurrency, blockchain technology, and mining in one article, I hope I’ve removed some of the mystique and confusion surrounding the market and opened your eyes to the possibilities that it can offer.