Montaigne Conseil presents a series of articles aimed at giving you an idea of what these assets represent, and to answer some questions that any investor could ask themselves: security, transfer, succession, diversification and exploitation.
We will start by introducing the genesis of cryptocurrencies (I) before explaining how they work in a banal way (II). Finally, we will explain what is the point of focusing on this asset class (III).
I. The birth of Bitcoin
The birth of the Bitcoin network and its cryptocurrency is directly linked to the subprime mortgage crisis of 2008. This crisis had highlighted two major weaknesses in our financial system: on the one hand, the interconnection of banks so that a major crisis could spread, like a virus, to the entire system. On the other hand, the inability of banks to be able to control this risk. If the fall of the American bank Lehman’s Brothers caused a stir, no major European bank could suffer the same fate. Have we done better? On the contrary! European states have made the decision to offset losses through debt, losses that we will one day pay through austerity, growth or inflation (austerity in disguise). Was it a bad decision? Not necessarily: what would the clients of BNP Paribas or Société Générale have said if they went bankrupt? In reality, there was no good solution to this problem.
Satoshi Nakamoto, anonymous creator of Bitcoin, believed it inconceivable that such a risk could impose itself on him without being able to control it. Likewise, the response of central banks (lowering of reference rates, massive refinancing) raised fears of a devaluation effect of the currency.
He then came up with the idea of creating a system to nullify the need for “custody”, that is, the custody of his funds by a third party. This custody implies that you are not in control of the money you hold in banks. This allows for the effectiveness of asset freezing measures, as we have seen with the war in Ukraine, but also puts your assets at risk, that of the default of the bank in which they are placed.
II. A decentralized blockchain network
The solution provided by Nakamoto can be summarized as follows: the construction of a decentralized public register (Distributed Ledger Technology). The ledger allows you to track transactions, just like a bank does with its accounts. The innovation lies in the distributed nature of the network: ensuring that the same ledger is shared among multiple entities around the world without the power to modify it remaining in the hands of a single person. In practice it is therefore necessary to ensure that the processing of transactions takes place automatically (through an algorithm). It is also necessary that the processing of these transactions be accepted by each of the components of the network: validation by consent. Finally, the members of the network must receive remuneration for their participation that is not linked to a centralized entity. These three problems will lead to the creation of bitcoin, the network, and bitcoin, the currency.
The Bitcoin network operates across multiple computers connected to the internet around the world. These machines run a unique algorithm that cannot be changed and establishes the rules that govern the network: the consensus method and the issuance of the Bitcoin cryptocurrency.
Consent allows computers to agree on a version of the ledger to avoid the double-spending problem – the end result is not being able to spend the same amount twice. This consensus differs between networks, for Bitcoin it is a mathematical problem: find a certain formula. All the computers are therefore working to find the solution. Once found, a number of computers check for the solution. If this is correct, new transactions are added to the log and the log is distributed among all nodes (computers) on the network. This work is performed, more or less, every 10 minutes. This method ensures physical and political censorship of the network since anyone can run the algorithm if they have a computer, reducing the chances of altering its operation.
The cryptocurrency thus obtained can be resold or held by the owner of the computer having managed to solve the problem of consent. He receives it on an “address” which is trivially equivalent to a Bitcoin account on the ledger. Since Bitcoin has a limit of 21 million units, an event occurs every 4 years: the halving, or the halving of the number of tokens received by those who validate the transactions, commonly called “minors”. This therefore means that over time there is a depletion of the asset. The bet of this mechanism is to consider that the value of bitcoins will increase in the different halves, so that miners can remain profitable in their business. Added to these rewards are the transaction fees that users pay for each transaction, supporting the network’s economy.
III. The interest of these assets
It must be understood that the ideology behind Bitcoin is particular: freedom of everything and physical and political decentralization (no one has power over the network). There are other networks (Ethereum, Solana, Algorand, etc.) whose uses are very different and complementary to Bitcoin. The idea is to have an uninterrupted, incensurable, unassailable payment system.
This technology allows anyone to be able, for example, to lend their money on a peer-to-peer basis without intermediaries, or even to automate a certain number of transactions, and in particular to be able to improve the revenue perceived by artists. The idea is above all to disintermediate and secure a transactional network.
Investing in these technologies therefore equates to exposure to the network, to the utility that users can derive from it and to diversify their investments. Montaigne Conseil has decided to focus on this potentially disruptive technology for our digital economies.