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Financial system Updated: 04 Jan 2017

Bitcoin bounces back despite negative publicity

Bitcoin, the digital currency whose anonymity attracted drug dealers and tax evaders, is on a roll again. But after a renewed price spike that echoes its first speculative bubble three years ago, even many of the currency's backers warn that another sharp correction is likely to follow.

Bitcoin first boomed in 2013 as speculators and libertarian idealists - along with assorted lawbreakers - were drawn to the idea of a currency designed to be beyond the reach of central banks and national regulators. Tech entrepreneurs and venture capitalists also jumped on the bandwagon, betting that it would become a platform for a disruptive new financial services industry.

The currency's price later fell back more than 80 per cent from its high, after a cyber-heist from its biggest exchange and growing attention from regulators. Since then, most people in the financial world have written it off as a failed experiment in digital finance, even though the idea behind a core part of its technology - the blockchain, a distributed ledger that simplifies transaction processing - has since moved across into mainstream finance.

However, after a 31 per cent jump since the start of December, bitcoin has more than doubled this year, pushing the value of the outstanding currency to $16bn. Prices being quoted on the currency's unregulated exchanges, though still some 14 per cent below the peak, are higher than at any time besides a handful of days during the first, frenzied boom.

The digital currency was at about $975 on Thursday.

The fact that bitcoin has revived despite the wave of bad publicity has fed hopes that it will eventually fulfil the ideals it once aroused, of a digital currency beyond the influence of national governments. "It's incredibly resilient," said Adam White, head of GDAX, an exchange run by US digital currency company Coinbase.

Tim Draper, a venture capitalist who was an early backer, claimed the recovery showed bitcoin was becoming "a viable alternative when people's confidence in their own government's currency waivers." He added: "The world will be a freer, wealthier, and smoother operating place as we apply more and more uses to bitcoin and the blockchain."

Critics warn that the bitcoin bounce has all the characteristics of a new speculative bubble and that its wild volatility, along with the idealistic hopes of supporters, make it more akin to an overhyped tech stock than a practical currency.

Prices are largely set in China, where more than 90 per cent of the world's trading takes place, and even backers say it is difficult to understand the dynamics behind the currency. "These really are the Wild West," said Mark Williams, a Boston University lecturer and risk management expert who has followed bitcoin since its early days. "It's unclear what's driving [the price]."

The high volatility, and the fact that few merchants accept bitcoin, have prevented it developing into the stable currency supporters had hoped. Instead, it has developed a life as a form of virtual commodity, where it is used for speculation or as an alternative place to park spare cash.

Bitcoin is now used heavily by people seeking to move assets out of their home countries for either legal or illicit reasons, said Micky Malka of Ribbit Capital, a venture capital group that specialises in financial services start-ups. He and others pointed to the fact that many people in China have been racing to move some of their capital out of the country as one explanation for the currency's rise.

Others claim bitcoin is starting to be seen as a valid investment category in its own right. "It's correlation is zero to other asset classes," said Mr White, potentially making it a useful instrument for investors looking for a way to hedge other investments.

That has led to a proposal in the US to create an exchange traded fund to track the currency, something that would bring a resounding stamp of respectability. The idea is currently before the Securities and Exchange Commission, though sceptics predict that the regulators have little reason to back the idea.

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Source: Richard Waters 2016. 'Bitcoin bounces back despite negative publicity''. Financial Times / December 29, 2016 Used under licence from the Financial Times. © The Financial Times Limited 2016.

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