Disclosure: I own a small number of Bitcoin.
An investment in Bitcoin, as outlined in the first article in this series, could potentially result in an enormous payoff, which is perhaps why it has attracted such fervent supporters. But as discussed in the second installment, the currency has many paths to failure. If you are willing to take a gamble, you must decide how to invest.
Because Bitcoin is a technology as well as money, you can own it in a way where you manage the tech yourself or you can have someone else handle it for you. You can also own other investment vehicles that give you exposure to Bitcoin but shield you from the currency’s volatility and that allow you to benefit from tax-advantaged accounts such as IRAs and 401(k)s.
Here are the different ways you might buy, invest in and store Bitcoin, plus guidance on how to choose between them.
If You’re Tech-Savvy, Go With A User-Controlled Wallet
Bitcoin was created by a computer program that produces a Bitcoin address (or addresses) for each entity that holds some of the currency. The owner of each address is given a “private key” that enable bitcoins to be sent out from it. Since Bitcoin Core was launched in 2009, a number of new apps have launched. Many, like the original software, are “user-controlled wallets” that have users manage their own private keys. But new services referred to as “hosted wallets” take care of private keys for their users.
Those who feel comfortable with technology might prefer a user-controlled wallet, which is more similar to digital cash and offers greater privacy and doesn’t require the user to trust any third parties. If you go this route, you have full control over your money, but that comes with its own dangers: you could lose your private keys, your computer could be hacked and the keys could be stolen, or your computer could break, and if you did not keep another record of your keys, you’d be out of luck.
User-controlled wallets can come in desktop, mobile or web apps, and for desktop, these fall into two main types: full node and simplified payment verification (SPV), a k a lightweight, wallets. Bitcoin Core is a full node client, meaning it will also load the full blockchain, the entire record of every transaction ever made in Bitcoin, onto your computer. The file is currently 51,000 MB, will take at least a couple days to download and in general will use up a lot of memory, unless you use dedicated hardware for running a full node, such as Bitseed. (Check out the costs of running Bitcoin Core here.)
If you would like a computer program, but don’t want to commit to using up all that space and memory on your computer, you can try a lightweight client such as Electrum. Bitcoin.org lists a number of options, along with their pros and cons, here.
You can also go with a phone wallet (which also will not download the entire Bitcoin blockchain) which is much easier to use to pay for items when you are out and about, making it seem even more like digital cash. Blockchain and Mycelium (Android) both offer user-controlled mobile wallets.
Because of the greater likelihood that you could misplace your phone or have it stolen, you should be sure to back up your wallet and keep it in a separate place so that if you do lose your mobile, you can re-create your wallet on your new device. This chart breaks down the pros and cons of various mobile wallets according to features like privacy, security, and control of your keys.
If You Want A User-Friendly Experience, Go With A Hosted Wallet
Hosted wallets, which are managed by a third party that will take care of your private keys for you, offer a user experience, usually via the web and a mobile app, similar to that of online bank accounts. But you need to find one with whom you feel comfortable entrusting your Bitcoin, because the company could choose to withhold your funds from you or get hacked and lose your keys. Also be aware that, for at least some transactions, you may be giving up the ability to directly access your Bitcoin and see it on the blockchain or verify it. For instance, if you have a Coinbase wallet and you send a small amount of money to another Coinbase wallet, it may not be viewable on the public blockchain.
To increase security, choose a service that offers two-factor authentication with Google Authenticator or a device such as a Yubikey. (Avoid using your phone number as that second factor at all costs, as hackers are stealing million in crypto assets using phone numbers.) In addition to wallets, which are used for everyday transactions, many of these services also offer vaults or “cold storage,” in which the keys to your Bitcoin (usually Bitcoin that you’re holding for an investment) are kept on computers not connected to the Internet, similar to a savings account or safety deposit box. Some of the most popular hosted wallet services are Circle, Coinbase and Xapo.
If You’re Concerned About Security, Go With A Multisig Service, Vault Or Hardware Wallet
If you fear losing your Bitcoin one way or another, you have a few options, depending on what your greatest fear is and what risks you’re willing to take.
If you’re not totally comfortable giving a third party complete control over your Bitcoin, but you also don’t trust yourself to not lose your private keys, you can go with a hybrid option — a company that offers multi-signature transactions. With such transactions, you usually do not have to hold all your keys yourself but you also don’t have to entirely trust the company.
The way it works is, instead of having one private key authorize a Bitcoin transaction, several keys are associated with that address, and a certain number of those keys (say, two out of three or three out of five) must be signed before money can be sent out of that address. It’s similar to how company checks above a certain dollar amount require signatures from multiple executives or employees in order to be valid. However, you don’t always have to give your second key to a different person. For instance, at Coinbase, you keep one key and then the second key requires you to enter a password. BitGo is the most established multisig wallet, and Coinbase offers a multisig vault.
As mentioned above, using a vault to store your Bitcoin is also highly secure, though doing so means you have to trust a third party. Plus, you will not be able to access your funds immediately. Xapo, in particular, is known for its cold storage services for investors.
If you want to retain control of your keys but are concerned with security issues that come with being on the Internet, such as hacking or malware, go with a hardware wallet, which is a small device built specifically for holding your Bitcoin public and private keys. Usually, the size of a USB stick or smaller, they are not connected to the Internet but can be plugged in to a computer from where the user can conduct transactions. They also do not reveal private keys on the computer, so even a hacker or key-logging malware would still not be able to access your Bitcoin. Some hardware wallets include LedgerWallet, Trezor, and KeepKey.
How To Obtain Bitcoin
If you have a user-controlled wallet, you could buy some Bitcoin through services like Coinbase, Circle, itBit, Gemini and other exchanges, which enable you to link your bank account. You could also buy some at a Bitcoin ATM or on a local exchange such as Local Bitcoins or Mycelium Local Trader where you can arrange to meet up with someone who has Bitcoin and then trade your dollars (or other currency) for their Bitcoin.
Hosted wallets make it easy for you by connecting to the traditional banking system, enabling you to buy Bitcoin through ACH, wire transfer or even check.
If You Want Exposure in Your Portfolio, Go WithBitcoin Investment Trust (GBTC)
If you don’t plan on spending actual bitcoins and want to use an investment vehicle that can be held in a tax-advantaged investment account with designated beneficiaries (and that can’t be lost the way that actual Bitcoin can), for now, you can buy GBTC, a trust that gives investors Bitcoin exposure in a traditional security. (Soon, there will also be an ETF.) Modeled after the SPDR Gold Shares ETF, GBTC is a publicly traded security invested in Bitcoin, with each share of GBTC representing one-tenth of a bitcoin, tied daily at 4pm to the Bitcoin market price. Sponsored by Grayscale Investments, GBTC can be held in IRA, Roth IRA, 401(k) and other brokerage and investment accounts.
Accredited investors can purchase shares directly from the issuer, but those come with resale and transfer limitations. Accredited and nonaccredited investors can purchase GBTC, which is freely tradable on OTCQX, through their IRA, Roth IRA and other brokerage and investment accounts.