Bitcoin has been a hot topic in the trading community the past few months, with spectacular runups in the price for Bitcoin and a whole host of alt-Coins. We could write for days on what Bitcoin is, or we could spout another article contributing to the FOMO syndrome (fear of missing out), but we would like to get right into the trading-related stuff and tell you what you really need to know about trading Bitcoin.
What is Bitcoin, Blockchain, and Mining?
Bitcoin is simply a decentralized way of keeping transactional records, eliminating the middle man, and the need for a central authority such as a bank or government institution, etc. Every transaction ever completed in Bitcoin is available to anyone who wants to download the Blockchain.
Blockchain is simply the continuously growing, public ledger with all transactions, segmented into roughly 1 MB blocks of information, managed with the protocol for validating new blocks. These blocks are linked together with secure communication, timestamps, and links to previous blocks. The Blockchain, by design, cannot be altered retroactively and is therefore protected against modifications.
Bitcoins are created through mining, which is another term for how transactions are verified. Bitcoin miners solve very difficult calculations to verify each transaction in a block, which usually takes about 10 minutes. The first miner to get the calculation right gets rewarded with brand-new Bitcoin. Mining rewards decrease over time until eventually, no new Bitcoins will be created.
The supply of Bitcoin is limited to about 21 million, of which about 16.8 million are in circulation already.
No one likes to hear about what they missed, so we will make this quick just to give a basis for the excitement over the cryptocurrency space. In May of 2010 one of the early bitcoin developers wanted pizza and said he would give 10,000 bitcoins to anyone who brought him a pizza. Someone took him up on it, delivered 2 pizzas, and received 10,000 bitcoins. This was the first real-world transaction in what were essentially valueless bitcoins.
In early 2011, a Bitcoin was valued at $1, then ran to $31 by July 2011, only to crash back to $2 by December. In November 2013 it passed the $1000 level, dropping back to the $200s by March of 2015 before setting off on its historic run to nearly $20,000. Along the way, there have been several 30%+ corrections. So, while it looks easy, in hindsight, the “$1000 Invested in Bitcoin in 2011 is Now Worth the GDP of Monaco” articles overlook the fact that it probably felt like your $1000 was going to zero at times.
Where to Trade Bitcoin
If you are looking for trading opportunities, Bitcoin is traded on multiple exchanges all over the world. Coinbase and its affiliated exchange, GDAX, are the most widely known in the U.S. Coinbase/GDAX, Bitstamp, Gemini, and Kraken are some of the few exchanges that allow direct conversion of Bitcoin into U.S. dollars. Here is a List of Bitcoin Exchanges for U.S. Citizens.
Many other exchanges only convert into other cryptocurrencies, or into local currencies. Trading on a single exchange is relatively easy but is expensive. Generally, trade fees run about 0.25% of the value, which would currently be about $45 for one Bitcoin. The higher volume will bring that down a bit, and GDAX is free if you are adding liquidity.
Prices can sometimes be wildly different on each exchange for extended periods. You may see Bitcoin trading at $16,000 on one exchange, and at $17,000 on another. This seemingly easy arbitrage is not so easy in practice. Only a few exchanges allow you to short Bitcoin, and if the higher price isn’t on one of those, you would have to move Bitcoin there to sell it. This can take a minimum of 30 minutes up to hours if the Bitcoin network is overwhelmed, during which time you are exposed to the Bitcoin price swings.
Additionally, you must have the cash to buy it at the lower-priced exchange. This is not always easy when exchanges can take days to verify deposits from banks, do not accept cash deposits but only take cryptocurrency, like Binance, charge high fees for transfers, or just plain do not accept U.S. customers, like Bitifinex.
When your cash or coins are with the exchange, they are not in your control and the anonymity afforded by the Blockchain makes it nearly impossible to track down stolen coins. That’s not something you think about when buying some TSLA stock with your cash balance at TD Ameritrade.
With crypto exchanges, however, there is a very real possibility of the exchange being hacked and losing your coins. It has happened at BitFloor in 2012, Mt. Gox in 2014, BitStamp in 2015, Bitfinex in 2016, and it just happened to South Korean exchange Youbit, which filed for bankruptcy this month after getting hacked for the second time this year.
There is no SIPC insurance for Bitcoin brokers that will reimburse clients, so it is up to the exchange to make customers whole. Furthermore, the exchanges themselves have been in business a short time and many have opaque business structures, so “caveat emptor”, or buyer beware when depositing a lot of money, either in cash or crypto, with them.
Recently both the CME and CBOE, Chicago’s two largest derivatives exchanges, opened Bitcoin futures. This has made it easier to trade on the price of Bitcoin, but it is still very expensive. Margin requirements are over 40%, which means you have to have over 40% of the value of your position on deposit at all times.
These new futures contracts afford 2+:1 leverage and some exchanges will grant 3:1, and there are CFD (Contracts for Difference, similar to futures) available at 10:1. Given the swings in Bitcoin, the odds are pretty good for a 10% price change that would wipe out an account at that leverage. Indeed, there have been several 10% price drops in 2017, and the 20x runup just this year would have taken out any short sellers many times over.
Much like the 1800’s gold rush days, when the value might be in the companies selling pickaxes and Levis, finding the suppliers with Blockchain expertise to back all the companies trying to jump into the crypto/blockchain space is another option to explore.
A biotech company called Bioptix, which made diagnostic equipment for the biotech industry, announced in early October that it was changing its name to Riot Blockchain and moving into the crypto/blockchain space, and has since run up over 300%. Even better, Long Island Iced Tea Corp (yes, the beverage company) changed their name to Long Blockchain Corp and the stock jumped from under $3 to over $15 overnight. It’s like history repeating itself from the dot-com days when stocks would double or triple just because they added .com to the name of the company.
While trading Bitcoin and all cryptocurrencies is getting easier every day, it is still the Wild West when compared to stocks, options, or futures. For trading experience and expertise, contact Great Point Capital to learn more about solid trading practices from proven trading strategies.
Great Point Capital has been serving the trading community since 2001, specializing in equities and equity options. We and are one of the very few firms able to offer access to Takion Software Platform, enhancing the trading performance of our 100+ prop traders. Contact us today to learn more about our proven strategies to help you earn to your maximum potential.