The concept of a risk-free interest rate for Bitcoin is new to many. This article explains what it means and implies for you as a Bitcoin investor.
With the popularity of Bitcoin growing, investors have started applying some of the conventional investment concepts to this area. One is the risk-free interest rate commonly associated with government bonds. This article explores the idea of a risk-free interest rate for Bitcoin.
What is Bitcoin?
Bitcoin is already a buzzword globally. For many, they understand it as simply a cryptocurrency. But it is more than just that. Bitcoin is both a digital currency and a speculative asset. You can pay for goods or services using Bitcoin. You can also invest in Bitcoin as an investment asset.
The price of Bitcoin is very volatile. It can change at any moment, and that is where investment comes in. You can buy Bitcoin today at a specific price and sell it next week when the price rises and make a profit. But remember that the price could also fall, leading to losses. Either way, the cost of Bitcoin has increased overall since its launch in 2009.
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What is a Risk-Free Rate?
For experienced investors, the risk-free rate may be familiar. But even some of these veteran investors may require help understanding it. And this becomes even more problematic when applied to Bitcoin or other cryptocurrencies. So, before understanding the risk-free interest rate for Bitcoin, it is crucial to define the risk-free rate.
But before that, let’s clarify that it is a theoretical concept. And this will emerge later after the definition. To understand the risk-free rate, the element of risk is core. Risk is the possibility that an actual outcome may differ from the anticipated outcome.
With that in mind, a risk-free rate implies that the possibility of different actual and anticipated outcomes is zero. In other words, the actual result will be similar to what you anticipated. But can there be a purely risk-free investment? The answer is no.
That’s why the element of the risk-free rate being theoretical comes in. You can view the risk-free rate as the pure time value of money. And this means the reward you would get from waiting for your money without taking risks as we understand them. The best example of a risk-free rate is the yield you get on government bonds.
Since the government controls and backs fiat money, there’s the expectation that the government cannot default. And this is the basis of the risk-free interest rate. So, if you invest your money in government bonds, you can earn some risk-free interest rate.
What is Risk-Free Interest Rate for Bitcoin?
Bitcoin differs from government bonds. In terms of risk, Bitcoin, like all other cryptocurrencies, is a high-risk investment asset. The price of Bitcoin could plummet at any time and without any warning. Would one then expect to earn interest from passively holding Bitcoin? The answer is no because Bitcoin has no government backing.
Since the risk-free interest rate only applies to investments that are not risky per se, there can be nothing like a risk-free interest rate for Bitcoin. Such an idea would negate the fundamental reality that Bitcoin is a risky investment with no government backing or other guarantee.
The risk-free interest rate for Bitcoin is an elusive idea. Bitcoin is a risky investment with no government backing, like bonds. Nevertheless, this should compel you to invest in Bitcoin because you’ll have total control over your digital asset.
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