Although last year was good for cryptocurrencies, with their total market cap hitting a record high, they tumbled along with stocks in the first week of 2022 on rate hike fears. However, as they're an alternative asset, they'd be expected to have a low-to-negative correlation with equities. Many experts believe cryptocurrencies aren't a portfolio diversifier but rather a Ponzi scheme.
Cryptocurrencies have become mainstream and many traders are looking at them favorably, especially amid stories of them making people rich quickly. But lot of crypto traders don’t understand their risks.
Ponzi schemes vs. pyramid schemes
Although Ponzi and pyramid schemes are similar, in that money from new investors is used to pay existing investors, they aren't identical. The main difference is that in pyramid schemes, people are enticed with the premise of being rewarded for luring more people to join. Whereas that wouldn't describe cryptos, the definition of Ponzi scheme might: investors may feel that they're being promised returns at a later date.
Many believe cryptocurrencies are worthless
While some see cryptocurrencies as the future of finance, well-known observers Warren Buffett, Charlie Munger, and Nouriel Roubini believe they're in a bubble. Bank of England governor Andrew Bailey believes that, in the worst case, cryptocurrencies could fall to zero and investors may end up losing all of their money.
Are cryptocurrencies a Ponzi scheme?
Black Swan author and former crypto bull Nassim Nicholas Taleb believes Bitcoin displays some characteristics of a Ponzi scheme. He's also refuted the argument that cryptos can hedge against inflation.
Referring to times such as when U.S. stocks and cryptos both tumbled in 2020's first quarter, Taleb said, “Basically, there’s no connection between inflation and bitcoin. None. I mean, you can have hyperinflation and bitcoin going to zero. There’s no link between them.”
On multiple occasions, including the first trading week of 2022, cryptos have moved with stocks and other risk assets, going against claims that they're an alternative asset.
As cryptos have done badly in periods of high inflation and surged amid low inflation, the inflation hedge theory also seems to hold little ground. VR founder Jaron Lanier is also of the view that bitcoin is a Ponzi scheme.
Cryptos are a popular asset class
All said, cryptocurrencies are an emerging asset class. One thing investors should keep in mind, though, is that cryptos are far riskier than stocks. Also, unlike stocks (which give you ownership of a real-world enterprise), cryptos don’t have tangible value.