The risks of investing in cryptocurrencies: No legal backing, frowned upon by the RBI

We started off by saying this is a new risk in personal investments. What is that risk?

For any investment, it is a pre-requisite that you have a basic understanding of what you are getting into, what the risks and potential returns are – in short, the risk-reward ratio. In cryptocurrencies, the basics itself are a grey area. If it is to be treated as a currency – yes, it can be treated as a currency as it is gaining increasing acceptance – the other side of the “coin” has to be taken note of. The “currency” is gaining currency by private acceptance. Usually, a currency becomes a currency by sovereign acceptance in the country.

In the case of bitcoin, the only one country to approve it as legal tender is El Salvador. More countries may follow suit in future, but by and large, the major countries of the world are against it. Which means, it is a “currency” by private acceptance, without legal sanctity. Let us look at the official stand in India.

On April 6, 2018, the Reserve Bank of India released a Circular captioned “Prohibition on dealing in Virtual Currencies (VCs).” It said that entities regulated by the Reserve Bank – Banks etc. – shall not deal in VCs or provide services for facilitating any person or entity in dealing with or settling VCs. It meant that the formal banking channels cannot be used for settling trades in cryptos or for to-and-fro flows from real money to cryptos.

Regulatory tangles

However, the Supreme Court, in a judgement passed on March 4, 2020, set this Circular aside. Hence, for clarity, the RBI issued a Circular on May 31, 2021. The latest Circular says that “It has come to our attention through media reports that certain banks/ regulated entities have cautioned their customers against dealing in virtual currencies . . . are not in order as this circular was set aside by the Hon’ble Supreme Court.” So far so good. Citizens have the right to use real currency (INR etc.) to purchase virtual currency and vice versa. However, one thing is clear. RBI does not endorse cryptocurrencies and is allowing transactions only because of the Supreme Court judgement. Moreover, the RBI is about to introduce the Central Bank Digital Currency (CBDC). In some quarters, CBDC has been described as a rival to crypto to be introduced by the RBI. However, these are not comparable and crypto is not legal tender in India. CBDC will be another form of legal tender currency, similar to the existing one, only that the mode will be digital.

Broadly, there is no regulatory support for crypto, which is there in other investments, in the form of a regulator, an exchange, the legal framework, etc. In case of any dispute or theft through hacking of your computer or technical issues such as crashing of your computer hardware or misplacing of your password, you do not have a redressal mechanism.

Should you buy cryptocurrencies?

Should you continue using the apps for participating in this market? Whether they will continue their meteoric rise or will crash, is anybody’s call. Crypto is touted as the “in thing” of the future. Possible; there are so many things happening today that seemed like sci-fi during our childhood. However, before you invest your hard-earned ‘real money’ in exchange for a virtual “coin” or a “token,” you should have clarity on:

-What is it you are investing in – is it an asset class such as equity or bond or gold?

-What is the logic for your investments – is it that the apps make it easy and the TV commercials look impressive, or is it that you are convinced about it;

-Do you have a basic understanding of the risks; and

-What is a ballpark expectation on returns