Why are consumers attracted to Bitcoin as an investment

Bitcoin is a virtual currency that is not controlled by a central bank. It has been in the news recently because it took off and rose to new heights, but did you know that Bitcoin's surge in value has made people think the cryptocurrency may one day replace traditional currencies? This post will help you understand what Bitcoin is and why it appeals to so many investors. We'll also tell you how much of an investment Bitcoin would be for yourself and show you what some experts say about its future potential.

The recent interest of more than 700,000 traders on Mt. Gox's trading platform  suggests a degree of mainstream attraction for bitcoins as an investment option. In 30 minutes on Thursday, almost $100 million in bitcoins were traded via the U.S.-based exchange. The digital currency soared from $35 to $50 per unit earlier in February but has since fallen back to around $45 per bitcoin.

Each bitcoin is subdivided into smaller units called satoshis, defined by eight decimal places, each with its price in dollars and cents. Although a bitcoin is not an official currency, most online exchanges list the digital unit in dollar amounts and will allow you to trade them for other currencies.

Bitcoin was launched in 2009 by a mysterious figure known only as Satoshi Nakamoto, who issued the first bitcoins through a process known as mining. The system uses complex algorithms to process transactions quickly and more efficiently. The software prevents third-party access by charging a small fee for each transaction.

Advocates claim Bitcoin can help avoid inflationary pressures caused by central bank printing of currencies and also help combat corruption because it is not tied to any one country or institution. They argue the system is self-regulating because the currency is programmed to reduce its generation as it gains in popularity and value, so no one can manipulate its inflation rate.

"Bitcoin is deflationary by nature, as the supply of Bitcoin is limited," says Joe Lee, a board member at Bitcoin Singapore and co-founder of derivatives trading platform Magnr. "As adoption grows, so does the price." The question then becomes: How can a currency designed to avoid inflation be expected to rise in value? New bitcoins will continue to be issued until the number of 21 million has been reached in 2140. At that point, no new coins will be created. This, says Lee, should keep prices from getting out of hand.

"Bitcoin is backed by the massive network effect of the thousands of people who continue to use and accept it worldwide," he says. "So, if you want to compare it to commodities like gold and silver, the more people who use Bitcoin, the more valuable it becomes."

Lee says that price growth will be determined by global adoption. Though Bitcoin has evolved as a technology platform, it remains a currency that allows for instant movement of funds anywhere around the world without having to deal with third parties or fees. That's an attractive feature in developing markets such as China and Russia where governments have taken steps to limit their citizens' access to foreign exchange markets.

The price of Bitcoin on many exchanges is quoted in U.S. dollars, which has strengthened its standing as an alternative investment for foreign investors and helped drive up the price. Some, however, warn this may be a short-term boon and that other digital currencies are more likely to replace Bitcoin as a preferred currency because they are faster to use, more efficient, and easier to verify.

"There's a lot of money flowing into Bitcoin right now," says Bill Barhydt, who recently launched Abra, a new mobile-payment service that enables people to buy bitcoins with cash at ATMs around the world. "But as soon as we have buyer's remorse, there will be others coming in. And that's where I think we're going to see big changes."

The price volatility of Bitcoin has attracted critics. The currency's value has fluctuated widely over the past few months. In late November, the value of a single bitcoin dropped significantly and traded at less than $200, but it rebounded in a matter of hours, according to data compiled by CoinDesk. The currency has had similar fluctuations before and in 2011 was valued at just $0.35 per unit when it was first released.

"Bitcoin is like buying a lottery ticket; you never know if it's worth anything or not," says Lee Kuan Yew School of Public Policy professor Shameem Bhana.

Bitcoin's biggest drawback, critics say, is its use as a vehicle for illicit activity including money laundering and the buying and selling of illegal goods on the Web. The Financial Crimes Enforcement Network, or FinCEN, issued guidance in March 2013 that said bitcoin exchanges such as Mt. Gox must comply with anti-money-laundering laws. The guidance stated that it was not a prohibition on trading bitcoins as a commodity -- only on exchanging them for other currencies. The goal was to allow exchanges to continue offering digital currency exchanges and transactional services but also to better ensure they do not facilitate money laundering and other criminal activities.

"The regulation is bad news for criminals, but from the overall perspective it is positive for Bitcoin," says Michael Jackson, a partner at venture capital firm Mangrove Capital Partners. "It means regulators are thinking about it."

Jackson says the current regulatory environment fosters robust competition in the Bitcoin market that will continue to drive innovation in the technology behind its creation. He also says the nascent currency has developed enough of a track record to demonstrate that it can withstand substantial price fluctuations while providing a viable alternative investment class. "The bitcoin markets are like gold -- they go up and down," Jackson says. "But there's no doubt they're here to stay. Given enough time, they will be a useful and accepted way of facilitating transactions of all kinds."

While regulators are still determining how to handle Bitcoin and other digital currencies, Jackson says he thinks it's important to consider the ramifications that revised regulations could have on the currency's price. "If currencies are widely accepted as storehouses of value, they can be used as instruments to transfer that value across national borders," Jackson says. "So if you can transfer those assets around the world with less friction -- that is if you can do it more easily and cheaply -- then there's more reason to believe that people will want to hold those assets."

Despite this potential for volatility, Bitcoin has its proponents. In the long run, it's a much better alternative to fiat currencies that can be artificially inflated by central banks, according to Roger Ver. He says governments and central banks are using inflationary monetary policies that are eroding the value of currencies around the world. "I think there's going to be a lot of interest in Bitcoin for this reason alone," he says.

To help expand its reach, Ver is developing devices based on the digital currency that he hopes small businesses will use to accept payments from their customers instead of credit cards or cash. He describes these devices as vending machines where you feed into your digital wallet and make your purchase with bitcoins. He is developing the payment systems with a team of software engineers at his new company, Memory Dealers.

Ver got excited about Bitcoin in 2011 and was immediately drawn to its potential as an alternative currency and payment mechanism that could be used online or at physical locations. "You can send them anywhere in the world as easily as sending an email," he says. "And unlike credit cards, you don't have to go through third parties or pay fees to use them."

Ver is also working with Robocoin, a Las Vegas company that launched the first bitcoin ATM in October 2013. At that time, Robocoin CEO Jordan Kelley sold $1 million worth of bitcoins on the first day of the ATM's operation. The ATM allows people to deposit cash directly into a digital wallet.

"Bitcoin is the only technology that can stand up to the government's ability to issue currency," Ver says. "But it's not going to replace fiat currencies on its own. It has to be coupled with other technologies."

Ver acknowledges bitcoin will not displace fiat currency overnight, but he is confident that more people will adopt the digital currency when they discover that it provides a cheaper, more secure, and more convenient alternative to traditional financial services. "I want everyone in the world using Bitcoin," Ver says, "and with every person who uses Bitcoin, I can pay for part of my coffee. And then with those bitcoins, I can help somebody else purchase something they want. And so I can pay some other merchant, and I can pay them in bitcoins again. By doing that, we are creating the currency."

And if Ver gets his way, every transaction will be not just possible but easier with Bitcoins than traditional payments. "We want to make Bitcoin as easy to use as PayPal or Visa," he says.