Last Saturday, before the girls came home for Thanksgiving, Jill and I went out for date night. After a fantastic supper at Estia downtown, we decided to head back to our quiet, empty home and watch a movie. I won the coin toss, so we saw the (sort of) new Top Gun movie. I’m not sure it topped the first one, but perhaps nostalgia was clouding my thoughts. After the movie, Jill chuckled that Tom Cruise still looked pretty good wearing the same leather bomber jacket that he did in the first movie. I reminded her that I, too, looked pretty good in a bomber jacket back in the 1990’s – and yes, she agreed with me. That jacket has since been relegated to the back of my closet. Yes, it was all the rage 25-30 years ago, but that trend has pretty much passed.
I got thinking . . .
Clearly trends come and go. So we’ll see if my old bomber jacket comes back in style again. But you know, lately I’m seeing a financial trend that is giving me concern – it’s the use of Cryptocurrency (“crypto”) in retirement plans. While some folks have made huge profits investing in crypto, it’s a very volatile and high-risk asset and relying on it to help fund your retirement could be a dangerous move, especially because it isn’t as well regulated as most other investments you can purchase today. This week I’d like to dig into some of the risks you might face if you’re considering a crypto investment.
Let’s first look at what cryptocurrencies are. Essentially, they’re a form of digital money managed by distributed computer networks. Each works differently, some come from volunteer programmers, others are made by companies – Fortune 500 enterprises, startups, and everything in between.
Cryptocurrencies are digital assets that are not backed by any government. While US government currencies are backed by the credit of the Federal Reserve, cryptocurrencies only derive value from the communities that use them. Cryptocurrencies may go up by 10x or 100x in value, but they could also drop to zero. They’re a high-risk investment, which is inherently problematic if you’re relying on these investments to fund your retirement in the coming 5-10 years. And unfortunately, the investment risk is just one piece of the risk puzzle.
Proof of this is FTX, a crypto exchange that just filed for bankruptcy. The former CEO, Sam Bankman-Fried, is accused of transferring $10 million dollars to Alameda Research, a sister company to FTX, via a “back door” transaction which allegedly bypassed compliance controls at the company. It is reported that over $1 billion dollars in customer funds are now missing, and the Department of Justice and Securities and Exchange Commission have opened investigations into the company and Bankman-Fried₁.
Former Treasury Secretary Larry Summers recently compared the sudden fall of FTX to energy trader Enron’s scandal in the early 2000s. In a “Wall Street Week” interview with Bloomberg, he said that while “a lot of” people have compared this to Lehman, he believes it is more similar to Enron’s scandal. The Enron scandal was an accounting scandal involving Enron Corporation, an American energy company, which declared bankruptcy in 2001 after it was discovered that the company had engaged in shady off-the-books business and accounting practices.
While many industry experts have warned that more regulatory scrutiny is coming following the FTX drama, Summers noted that the exchange’s fall is not much about lack of regulatory oversight, but rather about “very basic financial principles” that were ignored by FTX executives. “This is probably less about the complexities of the nuances of the rules of crypto regulation and more about some very basic financial principles that go back to financial scandals that took place in ancient Rome,” Summers said₂.
Folks, this shows us that crypto poses the very real risk of scams in addition to market risk. And the Federal Reserve is focused on regulating banks and the United States dollar, so cryptocurrencies are generally outside its sphere of influence. The Federal Reserve has decided, however, that cryptocurrency-related assets must be disclosed separately by banks. New cryptocurrency asset activities require notifying the Federal Reserve, and banks are urged to consider the risks of crypto to their asset portfolios. Unfortunately, I don’t believe this is enough for you to sleep at night with crypto in your retirement plan.
Instead, it’s critical to be cautious and conduct your research. Before making any investment, make sure it’s part of a solid retirement system, one that includes downside risk mitigation to prevent your portfolio from being overexposed to market loss – and scams. And if you choose to invest in crypto, be sure to avoid investing more than you can afford to lose, especially with funds you have earmarked for essential retirement income. It might just be OK to pass on this trend if you believe that the risks outweigh the rewards. When it comes to your hard-earned retirement dollars, I think not being trendy should be the next trend.
So as always – be vigilant and stay alert, because you deserve more!
Have a great week folks and I hope you had a wonderful Thanksgiving.
Jeff Cutter, CPA/PFS, is President of Cutter Financial Group, LLC, an SEC Registered Investment Advisor with offices in Falmouth, Duxbury, and Mansfield, MA.