Friday, 21 January 2022

Bitcoin and financial literacy

Will Bitcoin go “to the moon”? I am a bit sceptical myself. I would put it somewhere in the region of a 1-2% chance that it will break 1 million USD but I really have no idea. This doesn’t make it a bad investment necessarily, as the potential rewards are huge. There is always a risk-reward trade-off with any investment.

However, I am going to explain why I think just saying “it is going to the moon” is bad financial advice, even if it does end up getting there.

Usually whenever Bitcoin takes a dip, you see people post the meme with James Franco about to be executed with the caption “first time”. The idea being that long-term investors are jaded about price crashes and will just ride it out. You also see the term “HODL”, which stands for “hold on for dear life (I am not sure if this is genuinely benevolent investment advice or to meme others into stabilising the price).

There is nothing bad per se, about volatile investments. Stocks can be fairly volatile day to day, but on average has had good returns over the long run.

The problem with volatile investments, however, is that you might have to sell them when you don’t want to. This seems a bit odd, why can’t you just “HODL”? Well because sometimes you can’t hold on.

What if you have to drive your car to work and your car fails its MOT? What if your partner leaves you? What if you lose your job? What if your parents kick you out of their basement?

In the 2008 financial crisis, house prices dropped massively. Many people lost their jobs and so were unable to keep up with their mortgage payments. Even though house prices have pretty much recovered now, they were unable to hold on at the time. They had to sell their homes.

Most people try and have some level of “buffer” savings if they can. A pot of money set aside as insurance in case these bad things happen. Putting all your savings into a volatile asset doesn’t give you the same amount of insurance. If that bad situation happens, you will not be able to count on an exact pot of money to bail you out.

The problem, like all problems in life, are worse if you are poor. Some people have little or no savings altogether. Wealthy people are more able to have more of their savings in risky assets precisely because they are more able to weather any unforeseen hits to their income. And even then, these risky assets are often diversified to avoid putting all your eggs in one basket.

You would think, however, that this sort of stuff is just “common sense”. I am unsure how “common” this “common sense” is. Either way, I don’t buy the idea that people with low levels of financial literacy should be deserving of their fate.

There are lots of videos on YouTube hyping bitcoin as an investment but there are not many talking about basic financial literacy i.e. only invest what you can afford to lose etc.

Sometimes when people hear this, they think it is a negative comment about where crypto is eventually headed and dismiss it. But this isn’t hypothetical. Bitcoin has been highly volatile. People have bought high and been forced to sell low.

This is one of the reasons why I am a little concerned about things like crypto trading on phone apps. It gives people instant access to their savings and is not about long-term saving or investing. We also know when people “day trade” they often chase losses and lose money on average.

I wouldn’t mind so much if I thought financial literacy was higher in society. I guess right now I am worried for some people, their “first time” will also be their last.

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