Risk and Reward of Investing in Cryptocurrencies Reevaluated

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A month ago it was clear. These charts don’t look the same. Admitting it to myself, my mind whispered the line from the beginning of The Big Short,

I certainly didn’t like what I was seeing, but there was no denying it.

What was I looking at? Three charts in comparison. Bitcoin against the dollar, Total Cryptocurrency Marketcap, and Total Marketcap excluding Bitcoin (BTC).

To me these charts show the stark difference of how BTC is outperforming the remaining cryptocurrency market.

By measuring each chart against its own 21-week EMA (blue line), it shows relative strength or weakness to the asset class by itself.

That factored into my decision, but it wasn’t the only thing.

There was also no denying the geopolitical winds which were blowing as the trade war between China and the United States started to resemble an economic Race to the Sea with each trying to politically outflank the other with no decisive victory, much like the fighting in Belgium in World War I, where the only outcome was a hardened line on two sides with no man’s land between from the sea to the alps.

Only now, the lines of this trade war are political and philosophical, with an economic no man’s land between them that with each passing month, hardens into a 21st century Cold War with no victors, only economic losers.

Then the President’s tweets on bitcoin, cryptocurrencies, and libra. Followed shortly by the Treasury Secretary’s briefing.

Looking at all the information, it comes down to IRS payroll tax compliance, recent Treasury guidance on FinCEN, and how Chinese projects paying employees in tokens dilute shareholders for me.

First, IRS payroll compliance.

How serious does the IRS take this? They recently did a two-week campaign visiting 100 business showing signs of non-compliance across the country.

How does that relate to being a US investor in Chinese blockchain projects?

As a close friend said when we were recently discussing this,

“There aren’t too many deadly sins when it comes to the IRS, but payroll noncompliance by an employer is one of them. America doesn’t gas up M1 Abrams tanks once a year. They fill up when they’re empty, and they only take US dollars at the pumps, BNB doesn’t fit in the gas tank. So no way is Treasury and IRS going to be ok with US citizens holding a token that a company is using to pay their employees without a tax authority getting their cut and this not falling under FACTA at some point. No thanks, don’t want any part of that as a US investor on the western side of this new economic Cold War.”

I thought about this, then started looking, and found where Binance CEO ChangPeng Zhao (CZ) stated that 90% of the employees at Binance prefer to be paid in BNB.

I want to be clear on this, I’m not accusing any project of doing anything wrong, as the laws they are beholden to are based on the jurisdictions they operate in.

What I am saying is that I fall under US securities and tax law as a US investor, and based on the recent guidance and actions from the US government, combined with geopolitics, I thought it wise and much simpler going forward to divest out of all cryptocurrency holdings which are not Bitcoin and Ethereum since the SEC has said they aren’t considered a Security and the SEC is now wanting to run nodes for Bitcoin and Ethereum.

The recent press conference by Treasury Secretary Mnuchin also contributed to this decision.

Everything he said made sense with FinCEN and AML/BSA compliance.

After all, it is reasonable to expect a verifiable record of trades if I deposit money into my US based bank account from cryptocurrency trades and then want to shift those dollars to other investments.

An acceptable answer of injecting liquidity into traditional financial markets from the Wild West of cryptocurrency in a couple years isn’t going to be,

“I did a bunch of trades in these Binance IEO’s, but it’s cool, I kept an excel spreadsheet that I used to fill out my schedule D and form 8949 for capital gains since none of these exchanges give me a 1099.”

With institutions, derivates products, ETFs, and trillions in liquidity on the horizon, it makes sense that Treasury and the IRS have to get a handle on this now.

Frankly, I’m looking forward to it.

I’m sick of tracking trades in excel and look forward to just getting a 1099 from Gemini, like my normal brokerage account.

That also means FATCA (Foreign Account Tax Compliance Act) is coming to cryptocurrency land.

Foreign entities will have to make sure they are in compliance, and most will opt not to run the risk of non-compliance, and just say “No US investors.”

Which is why Binance.US is launching.

When it does, I think it is likely US investors will be forced to sell tokens which are not transferrable to Binance.US before their old account, holding non-transferrable altcoins, is closed by Binance to comply with FATCA requirements.

Taking the loss doesn’t feel good, but it’s better than dealing with FATCA.

Now, lets look at Chinese blockchain projects paying their employees in tokens in another light.

It is a dilution to existing token holders, where the companies instead of protecting shareholder value, are in fact acting hostile to shareholders and destroying the value of the tokens they hold.

It is not the Employees fault. They have to meet their every day needs — rent, food, gas, etc…all of which is undoubtedly more expensive with the Chinese Yuan devaluing against the dollar in this trade war.

It isn’t just Chinese altcoin projects though. Stellar (XLM) which I was previously invested in since IBM is a long-term dividend holding of mine also continues to bleed value, and its non-performance during the recent run-up by Bitcoin only validates the reason not to continue holding a weak performer into the future.

If I hate what the charts are telling me about price weakness in altcoins now, and the simplest solution is usually best, that means to me, altcoin projects are going to show continued price weakness, especially if they are stuck in the no man’s land of this new geopolitical and economic cold war.

Add to that US investors being forced to sell into a weak market as Treasury and the IRS provide needed guidance and further clarity into this emerging asset class, and the quote from Margin Call came to mind when I decided to consolidate in bitcoin and ethereum,

“There are three ways to make a living in this business. Be first, be smarter, or cheat. I don’t cheat, and while we have some pretty smart people in this building, it’s a hell of a lot easier to just be first.”

So I now hold only Bitcoin (90%) and Ethereum (10%) for my cryptocurrency allocation.

I could be completely wrong. I could have sold the bottom and Chinese blockchain projects go on to multiples higher.

I’m ok with that, the future will tell, but based on recent events I no longer think most altcoins provide a worthy asymmetric risk/reward profile to justify holding them over just being invested in mostly bitcoin.

Looking forward I have onboarded with LedgerX, and am very interested in their bitcoin futures products as the first US-based CFTC approved exchange to launch. It may provide an opportunity to have a 23% tax rate on selling bitcoin futures instead of spot, which would be a tax savings of 18% in addition to not selling any underlying physical bitcoin.

More later on that as I see how it works.

For now, took the loss and consolidated the position because I don’t want to be sitting in King Dionysius seat if that sword comes down. — RC

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