Is Wall Street heading for a cryptocurrency bubble?

12 Dec 2017

The Charging Bull sculpture on Wall Street in New York. Image: Javen/Shutterstock

Dangers of a digital gold rush need to be kept in mind.

If it’s too good to be true, then it probably isn’t.

I’m getting notes on upcoming ICOs from the most unexpected sources lately, and can’t help but think of the decision by Joseph Kennedy (father of former US president John F Kennedy) to quit the stock markets in 1929 when he started receiving advice from the shoeshine boy on what shares to buy. Trusting his instincts meant he narrowly avoided a massive personal disaster. It was not until the Second World War that the US economy began to regain momentum after the crash of 1929.

Bitcoin yesterday (11 December) hit a high of $17,270 after drawing in millions of new investors. This was after bitcoin futures launched on the Chicago Board Options Exchange (CBOE).

‘I believe that initial coin offerings – whether they represent offerings of securities or not – can be effective ways for entrepreneurs and others to raise funding, including for innovative projects’

This morning, the virtual currency dipped to $16,390 on the Luxembourg-based Bitstamp Exchange, but futures maturing in January stand at $17,970 on the CBOE.

Chicago may be only the start and it is understood that Nasdaq is planning to launch its own bitcoin futures contracts next year.

This comes at a time when people are still divided on the future of cryptocurrencies, which, unlike real currency, are not linked with any government or gold standard.

Future, fraud or digital fad?

In recent weeks, JPMorgan Chase head Jamie Dimon labelled bitcoin “a fraud”.

The core root of cryptocurrencies – blockchain – has many other practical uses. As a digital mechanism and ledger technology, it has a lot going for it in terms of transparency and doing everything from managing computer networks to ensuring food and pharma supply chains. It represents a transparent and traceable future. But cryptocurrencies, to my mind, do not.

The use of blockchain to create cryptocurrencies such as bitcoin and Ethereum, leading to the ever-rising spate of initial coin offers (ICOs), smacks of the Dutch tulip auctions of the 17th century to me.

My suspicion lies in the vital fact that aside from whatever happens on the Nasdaq or CBOE in the futures department, across the overall cryptocurrency world, the identities of those involved in trading is secret.

Last year, cryptocurrency The DAO was famously hacked and saw $55m siphoned off by cyber-criminals not long after it made its ICO. To some, ICOs are being viewed as the Ponzi schemes of our times and, out of an estimated $1.6bn invested in ICOs by September, about $150m has ended up in the hands of criminals.

Despite this, ICOs are now being used as a way for start-ups to raise cash rather than run the gauntlet of venture capitalists. According to a recent report by CB Insights, in the second quarter of 2017, the total funding raised by ICOs surpassed equity financing for the first time, and the trend is forecast to continue to more than $2bn in 2017.

Despite the CBOE launch and plans by Nasdaq, the prospecting on cryptocurrencies such as bitcoin may be over before it even begins. Already, financial authorities in Singapore, China and South Korea have cracked down on cryptocurrencies.

SEC has strong words of advice on cryptocurrency

Last night, the chair of the US Securities and Exchanges Commission, Jay Clayton, issued a strongly worded warning about crypto-investing.

Addressing main-street investors in the US, Clayton said: “Investors should understand that to date, no initial coin offerings have been registered with the SEC. The SEC also has not to date approved for listing and trading any exchange-traded products (such as ETFs) holding cryptocurrencies or other assets related to cryptocurrencies. If any person today tells you otherwise, be especially wary.

“We have issued investor alerts, bulletins and statements on initial coin offerings and cryptocurrency-related investments, including with respect to the marketing of certain offerings and investments by celebrities and others.”

Urging potential investors to read up on prior warnings, Clayton continued: “As with any other type of potential investment, if a promoter guarantees returns, if an opportunity sounds too good to be true, or if you are pressured to act quickly, please exercise extreme caution and be aware of the risk that your investment may be lost.

“Please also recognise that these markets span national borders and that significant trading may occur on systems and platforms outside the United States. Your invested funds may quickly travel overseas without your knowledge. As a result, risks can be amplified, including the risk that market regulators, such as the SEC, may not be able to effectively pursue bad actors or recover funds.”

In other words, in the unregulated world of cryptocurrencies, the investor is very much alone. And, if they start crying about losing the shirt off their backs, no one is going to listen.

Interestingly, Clayton appeared to suggest there is some merit in ICOs, but he again urged caution.

“I believe that initial coin offerings – whether they represent offerings of securities or not – can be effective ways for entrepreneurs and others to raise funding, including for innovative projects.

“However, any such activity that involves an offering of securities must be accompanied by the important disclosures, processes and other investor protections that our securities laws require. A change in the structure of a securities offering does not change the fundamental point that when a security is being offered, our securities laws must be followed.

“Said another way, replacing a traditional corporate interest recorded in a central ledger with an enterprise interest recorded through a blockchain entry on a distributed ledger may change the form of the transaction, but it does not change the substance.”

I’ll put it more succinctly. Money or value is always hard to come by. Simply manufacturing it out of air from a series of ones and zeros does not imply value.

The Charging Bull sculpture on Wall Street in New York. Image: Javen/Shutterstock

John Kennedy is a journalist who served as editor of Silicon Republic for 17 years