FXCM Insights

Ether (ETH)

Ether is the world’s second-largest digital currency (or cryptocurrency, as it’s commonly known) by market capitalisation at the time of report.1)Retrieved 26 August 2017 https://coinmarketcap.com/

Just like fiat currencies, digital currencies have their own unique price determinants. While the prices of fiat currencies rely on fundamentals such as international trade and the relative strength of different economies, digital currency values are based on different key factors.

Cryptocurrencies like ether (and bitcoin) have complicated underlying technology, and obtaining a sense of this information is crucial to understanding their value.

The Basics Of Ether

Ether is the digital currency used by ethereum, a decentralised platform that runs smart contracts. A smart contract is an application that operates based on if-then scenarios in order to execute specific terms of a contractual agreement.2)Retrieved 26 August 2017 https://www.ethereum.org/ In other words, smart contracts fulfill clauses in contracts once certain requirements have been met.

The ethereum website describes smart contracts as “applications that run exactly as programmed without any possibility of downtime, censorship, fraud or third party interference.”3)Retrieved 26 August 2017 https://www.ethereum.org/

These smart contracts operate on ethereum’s blockchain, a distributed ledger system that keeps track of transactions and allows ethereum’s users to maintain a record of who owns what. Basically, ethereum provides a platform that developers can use to run decentralized applications.

Some market observers have expressed great hope for these contracts, asserting that they could have widespread applications ranging from supply chain management and financial administration to legal contracts.4)Retrieved 26 August 2017 https://thenextweb.com/contributors/2017/07/31/smart-controls-contracts-blockchain-tech-bridging-real-virtual-worlds/#.tnw_FOIRw9jm

However, others have voiced concerns about whether smart contracts are legally binding under existing laws.5)Retrieved 10 September 2017 http://www.businessinsider.com/smart-contracts-pose-enforceability-issues-2016-11 In November 2016, blockchain consortium R3 and law firm Norton Rose Fulbright released a white paper that examined whether smart contracts were enforceable under the laws of varying jurisdictions.6)Retrieved 10 September 2017 http://www.nortonrosefulbright.com/knowledge/publications/144559/can-smart-contracts-be-legally-binding-contracts

The document’s findings illustrated the complexities of the matter, showing that variables such as the country—and even the type of blockchain—could affect a smart contract’s enforceability.7)Retrieved 10 September 2017 http://www.nortonrosefulbright.com/files/norton-rose-fulbright–r3-smart-contracts-white-paper-key-findings-nov-2016-144554.pdf

Ether is the fuel or “gas” used to pay for transactions made on the ethereum platform. Basically, ether gives participants a reason to contribute resources used by the platform, thereby ensuring a robust network. Further, it provides developers with incentive to write efficient code, as inefficient software programs are more expensive.

Here’s an example of how it may work for different participants:

Ether Investment Basics

Interested investors can trade Ether on several exchanges, including GDAX, Bitfinex and Kraken. On these marketplaces, ether, which trades under the ticker symbol ETH, can be traded against other currencies, including bitcoin (BTC), the U.S. dollar (USD) or the Japanese yen (JPY).

Compelling Returns

The digital currency has provided compelling returns at some points, with the more than 5,000% price increase it experienced during the first half of 2017 serving as a perfect example.9)Retrieved 10 September 2017 https://coinmarketcap.com/currencies/ethereum/

Looking at longer time frames produces some even more impressive figures.

Between August 2015 (the first time the currency’s market data is available on CoinMarketCap) and 12 June 2017 (when ether’s price reached US$414.76), the digital asset appreciated more than 14,000%.10)Retrieved 10 September 2017 https://coinmarketcap.com/currencies/ethereum/

These increases in value caused ether to easily outperform many other assets, such as the broader stock indices.

For those thinking of investing in ether, having a good sense of the major trends that coincided with this sharp rise can be quite helpful. An example of a development that has taken place alongside ether’s price appreciation is the investments that cryptocurrencies have drawn from interested parties.

Rising Interest in Crypto

Digital currencies have drawn significant inflows from investors at some points, which has caused their total market capitalisation (market cap) to rise at the same time that ether’s price was pushing higher.

During the first half of 2017, the total market cap of these digital assets rose more than 450%, climbing from roughly US$17.7 billion at the start of the year to approximately US$100 billion by the end of June.11)Retrieved 10 September 2017 https://coinmarketcap.com/charts/ Between roughly the beginning of August 2015 and mid-June 2017, when ether’s price peaked, the total market cap of cryptocurrencies rose more than 2,000%.

In spite of these impressive returns, traders should keep in mind that digital currencies have only achieved widespread adoption in the last decade. As a result, investors could flee these digital assets, which would send their values significantly lower.

Initial Coin Offerings

Another major development that has taken place alongside ether’s recent price increases is the surging incidence of initial coin offerings (ICOs). An ICO is similar to an initial public offering, except that the entity holding the sale is selling digital tokens instead of more traditional securities like shares of stock.

These ICOs raised more than US$1.1 trillion during the first half of 2017, with nearly US$800 billion of that amount raised during the second quarter.12)Retrieved 10 September 2017 https://techcrunch.com/2017/09/07/ico-report-q2-coindesk/ These figures are significant because many ICOs rely on investors trading their ether for whatever digital tokens are being offered in the sale.13)Retrieved 10 September 2017 https://techcrunch.com/2017/06/08/how-ethereum-became-the-platform-of-choice-for-icod-digital-assets/

While the rising incidence of ICOs arguably helped push ether’s price higher, the prevalence of these sales could decline at any time. In 2017, ICOs encountered rising regulatory scrutiny, particularly from the U.S. Securities and Exchange Commission (SEC). The SEC stated in July 2017 that in some cases, the tokens issued in ICOs are securities, making them subject to federal securities laws.14)Retrieved 10 September 2017 https://www.sec.gov/oiea/investor-alerts-and-bulletins/ib_coinofferings

The potential implications of such a change could discourage some companies from holding ICOs, therefore reducing the prevalence of such offerings. Chinese authorities took things a step further, banning ICOs in September 2017.15)Retrieved 10 September 2017 https://www.cnbc.com/2017/09/04/chinese-icos-china-bans-fundraising-through-initial-coin-offerings-report-says.html

If developments like these reduce the number of ICOs in a substantial matter, it could provide headwinds for ether’s price.

Sharp Volatility

Another factor that investors should keep in mind is ether’s volatility. After rising more than 5,000% in less than six months, the currency suffered a sharp drop and lost more than two-thirds of its value over the next few months.

Volatility is typical for cryptocurrencies. Bitcoin, the first major currency to scale, has suffered some very intense gyrations in the years since it came to trade on exchanges. Neil Waxman, managing director of wealth manager Capital Advisors, has asserted that bitcoin is almost seven times more volatile than gold.16)Retrieved 10 September 2017 https://financialadvisoriq.com/c/1723453/199183

However, while bitcoin’s price rose close to 150% during the first half of 2017, this price increase was far less than the one enjoyed by ether.

In short, traders who are interested in ether need to be mindful of its volatility.

A Speculative Investment

Traders should also keep in mind that digital currencies are speculative investments. Stock prices, for example, are based on variables like revenue and earnings, and bond prices are based on factors such as interest payments. Cryptocurrencies, however, lack these more tangible price determinants.

Because of these concerns, traders who are evaluating these digital assets for potential investment opportunities will need to be ready to examine different fundamentals than they would when looking at more traditional securities like stocks and bonds.

Fad Concerns

In addition to being speculative in nature, some market observers have claimed that cryptocurrency is a fad.17)Retrieved 10 September 2017 http://www.express.co.uk/finance/city/833706/Bitcoin-scam-price-news-cryptocurrency-pyramid-scheme-forecast Billionaire investor Howard Marks, for example, wrote, “In my view, digital currencies are nothing but an unfounded fad (or perhaps even a pyramid scheme), based on a willingness to ascribe value to something that has little or none beyond what people will pay for it.”

Summary

Digital currencies such as ether have drawn significant interest from market participants, attracting robust inflows and therefore experiencing sharp rises in value.

However, ether is a speculative investment and has frequently suffered from intense volatility. While investors may find ether appealing, they are better off conducting significant due diligence on the digital currency before buying, selling or otherwise investing in it.

Any opinions, news, research, analyses, prices, other information, or links to third-party sites are provided as general market commentary and do not constitute investment advice. FXCM will not accept liability for any loss or damage including, without limitation, to any loss of profit which may arise directly or indirectly from use of or reliance on such information.

FXCM does not endorse cryptocurrency. The information provided herein is for educational purposes only.

References   [ + ]

1. Retrieved 26 August 2017 https://coinmarketcap.com/
2, 3. Retrieved 26 August 2017 https://www.ethereum.org/
4. Retrieved 26 August 2017 https://thenextweb.com/contributors/2017/07/31/smart-controls-contracts-blockchain-tech-bridging-real-virtual-worlds/#.tnw_FOIRw9jm
5. Retrieved 10 September 2017 http://www.businessinsider.com/smart-contracts-pose-enforceability-issues-2016-11
6. Retrieved 10 September 2017 http://www.nortonrosefulbright.com/knowledge/publications/144559/can-smart-contracts-be-legally-binding-contracts
7. Retrieved 10 September 2017 http://www.nortonrosefulbright.com/files/norton-rose-fulbright–r3-smart-contracts-white-paper-key-findings-nov-2016-144554.pdf
8. Retrieved 10 September 2017 https://www.ethereum.org/ether
9, 10. Retrieved 10 September 2017 https://coinmarketcap.com/currencies/ethereum/
11. Retrieved 10 September 2017 https://coinmarketcap.com/charts/
12. Retrieved 10 September 2017 https://techcrunch.com/2017/09/07/ico-report-q2-coindesk/
13. Retrieved 10 September 2017 https://techcrunch.com/2017/06/08/how-ethereum-became-the-platform-of-choice-for-icod-digital-assets/
14. Retrieved 10 September 2017 https://www.sec.gov/oiea/investor-alerts-and-bulletins/ib_coinofferings
15. Retrieved 10 September 2017 https://www.cnbc.com/2017/09/04/chinese-icos-china-bans-fundraising-through-initial-coin-offerings-report-says.html
16. Retrieved 10 September 2017 https://financialadvisoriq.com/c/1723453/199183
17. Retrieved 10 September 2017 http://www.express.co.uk/finance/city/833706/Bitcoin-scam-price-news-cryptocurrency-pyramid-scheme-forecast