The fell swoop of the COVID-19 pandemic has ravaged nearly every corner of the globe. Lives lost, businesses trampled upon, economies tanked. During this perilous period of financial precariousness, many investors are turning toward alternative ventures like digital assets.
Cryptocurrency is the newest technologically foraged nest that traders can place their eggs of wealth in. Existing almost entirely in the digital realm, cryptocurrency is quickly gaining traction in the physical business world. Too young to be deemed a safe haven for investors, cryptocurrency’s independence from mainstream assets is enabling it to be seen as a fresh face to hedge against inflation. In an economy as uncertain as the one we’re living in, this may be precisely what the latest financiers are looking for. Continue to learn why.
1. Current Monetary Environment
The vacillation of global economies caused by the pandemic is sending investors into a frenzy in search of reliable answers. While all countries were sucked into the same quicksand, the supreme U.S. dollar and its monarchical Federal Reserve are at the forefront of the global effort to pull economies out of the sandy whirlpool. According to the Federal Open Market Committee’s most recent forecast that was released after their meeting on June 16th of 2021, U.S. GDP is expected to rise by 7% by the end of this year. It is then estimated to drop to a 3.2% growth rate in 2022 and continue to slow to 2.4% in 2023. How swiftly the economy recovers will depend on many factors, one of the most important being policy responses.
Many countries are devoting much of their energy in implement policies to cushion the continuous blow of COVID-19. For the U.S. and most of the world, the Federal Reserve is the first line of financial defence. When the coronavirus first infected the US economy, the Fed:
- lowered interest rates to zero
- made significant asset purchases
- and injected liquidity into financial markets.
While those efforts, plus additional government spending and quantitative easing, helped curb investors’ worries, COVID-19 continues to precipitate an ominous cloud that looms over the market. Many traders are leaning into new investment opportunities such as cryptocurrency.
A pecuniary infant, cryptocurrency is fresh and nascent. Albeit bright-eyed and bushy-tailed, this innovative financial platform is still uncertain and mostly unregulated. Nevertheless, despite distrust and speculation, cryptocurrency proved its prowess by nearly tripling in value since the start of the pandemic. Though it’s still early, it may be time for the world to plug in and go digital.
2. The Power of Portfolio Diversification
You’ve bought some eggs and you’ve placed them in your trusty basket. All of a sudden, a powerful, unforeseen earthquake rattles the ground beneath your feet, causing your basket to fall, cracking all your recently purchased eggs.
“Don’t put all your eggs in one basket” might be the oldest adage in the investor handbook. It symbolizes the imperative need to diversify your resources. Even if you have the utmost confidence in a particular company, no experienced investor will recommend you throw all your money into one company’s stock – it’s too risky. Multifariousness allows for a healthy balance of risk and reward. It acts as self-protection in case your instincts were off-kilter. There are many assets you can allocate amongst your portfolio:
- Real Estate
3. Cryptocurrencies' Increasing Adoption
After the 2008 economic catastrophe, investors searched far and wide for smart ways to recuperate. Coincidentally, a white paper emerged on the internet on Halloween of 2008 by someone named Satoshi Nakamoto that was entitled, “Bitcoin: A Peer-to-Peer Electronic Cash System.” Diving into digital finance and blockchain networks, this paper explained how Bitcoin, a digital ledger of sorts, could be a new, decentralized, trustless network among peer investors. Nakamoto was the first to theorize an intermediary-less blockchain, an idea that revolutionized the financial world. Irreversible, cryptographically secured transactions, Bitcoin became the first successful digital currency in the history of economics.
Because innovation never ceases, developers designed a new project that was based on the original Bitcoin source code, Litecoin, which became the first fork in cryptocurrency. This kickstarted a new wave of online finance, most notably, DeFi.
DeFi, decentralized finance, is an umbrella label for this tsunami of financial applications that were born out of the ocean of Bitcoin. Drawing inspiration from blockchain, DeFi removes middlemen from transactions, offering more control to the transactor. Prior to adopting the label DeFi, it was called open finance. The most popular types of open finance are:
- Decentralized Exchanges (DEXs)
- Lending Platforms
- Wrapped Bitcoins (WBTC)
- Prediction Markets
Not quite DeFi but not quite a cryptocurrency, NFTs have been dominating headlines lately. “Nonfungible tokens” are blockchain assets that hold unique identification codes and metadata that distinguish each from one another. Every NFT is different, or nonfungible, meaning it is both verifiable and trackable, setting it apart from cryptocurrency. Aptly named, cryptocurrency is a currency. Alternatively, NFTs are goods. Just like physical goods, you can buy, sell, and resell NFTs, all online.
The main reason why NFTs are likely to grow in popularity centers around this idea of uniqueness — having access to something that no one, in theory, could ever have access to without the owner's decision to replicate. The most famous example is probably the CEO of Twitter, Jack Dorsey, whose first tweet sold as an NFT for $2.9 million. As blockchain use becomes an increasingly popular way to show proof of ownership, NFTs are likely to keep coming.
Though Jack Dorsey’s tweet set the tone for the prowess of NFTs, Axie Infinity (AXS) was the first to reach one billion in sales. A play-to-earn cryptocurrency game, AXS players own NFTs called Axies. Gamers breed and battle Axies in addition to spending in-game tokens to complete quests, barter land, and farm resources. These tokens can be traded on decentralized exchanges for legitimate cash. This tradeable commodity creates an immersive, lifelike experience for game players, augmenting their enjoyment to produce higher-quality entertainment. So much so that thousands of people have quit their day jobs to fully plug in to the Axie Infinity universe.
4. Hedge against inflation
When inflation rates rise, investors often hedge against that fluctuation. Common hedges in the past have been:
- Bank Loans
- Real Estate
- Precious Metals
- Treasury inflation-protected securities (TIPS)
- And now cryptocurrencies.
Most cryptocurrencies have become an inflation hedge simply because there is a finite amount of it. Just like gold, people invest in cryptocurrency because the government can’t immediately print more of it like they can regular money. This scarcity increases demand, which pushes prices up. Due to the accessibility, the market will value and accept the asset, garnering more demand over time, influencing cryptocurrencies' durability. Bitcoin, with its 21 million BTC supply cap, is a prime example. This permissionless, censorship-resistant system may be leading the charts now but there are plenty of other systems that follow closely behind.
Ethereum (ETH), with its new London upgrade, is changing the game. Previously, Ethereum issued two coins into circulation for every block produced on its network. Regardless of the number of users, transactions, or market price, the total supply was programmed to gradually increase. As long as demand for ether outweighs supply growth, it cannot be an inflationary currency that depreciates in value over time.
Ethereum Improvement Proposal (EIP) 1559 was proposed to make Ethereum’s transactions more predictable. It introduces a base fee for every transaction, calculates based on network activity, and burns once paid. Judging by the transaction activity on Ethereum, it’s likely EIP 1559 could burn more ether through base fees than what’s issued into circulation via miner block rewards.
Ultrasound.Money, Ethereum’s inflation tracking service, predicts Ethereum will become deflationary as soon as it reduces supply by moving away from mining. Transitioning from a proof-of-work (PoW) model to a proof-of-stake (PoS) model, Ethereum is opting for a more cost-effective and energy-efficient blockchain security. Because of the minimal increase in the supply of ether under PoS, there is a larger potential for asset demand to outstrip its growth in supply, allowing the value of ether to increase over time, standing up next to Bitcoin as a hedge against inflation.
In an unstable marketplace, investors search for new investment opportunities to balance their portfolio with the hopes of mixing high variability and stability. Cryptocurrencies are the newest fad. After two years of a pandemic, it has proven to be an alternative asset to invest in while the rest of the world’s economies recover. Even if the pandemic was nonexistent, cryptocurrencies would still be a solid investment opportunity. Yet another avenue to diversify one’s portfolio, it offers an economic hedge for investors who are willing to plug in and go digital.
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