Crypto 101: Everything You Need To Know About Bitcoin, Ethereum, Blockchains, ICOs, And More

In this special bonus episode, Laura cover all your basic questions about crypto. What is Bitcoin? What is Ethereum? What is a blockchain? Share this episode with friends, family and anyone who is new to the crypto space and wants to understand what it’s all about. Thanks to Elaine Zelby for conducting the interview!

No show notes for this show, but some helpful links

Bitcoin — these links are old but the information mostly still applies:

ICOs

Transcript:

Laura Shin:

Hi everyone. Welcome to Unchained, the podcast where we hear from innovators, pioneers, and thought leaders in the world of blockchain and cryptocurrency. I’m your host, Laura Shin, a senior editor at Forbes, covering all things crypto. If you love Unchained, please give the show a positive rating or review on iTunes. Also, spread the word on Facebook, Twitter, Slack, Telegram, and wherever you discuss crypto, and don’t forget to follow me on Twitter @laurashin. This special bonus episode is brought to you by Onramp. Your branding and website are the first things your users will see and in the current wild west of ICOs and blockchain start-ups, you need to stand out from the pack. Onramp is a full service creative and design agency that will help amplify your brand with the perfect website, logo, collateral or custom design project. Get big results in no time by visiting thinkonramp.com.

You may have noticed that today’s episode is outside of our regularly scheduled programming. Yes, season three is over, and season four hasn’t begun, so what is this episode? This is an episode I’ve been meaning to do for a long time, Crypto101 for all the newbies who are curious about the space, but don’t know all the lingo yet. So, if you’re a seasoned cryptos person who is tired of answering questions for your friends and family about the space, this is another great episode to share in addition to the one earlier this fall, How to Explain Cryptocurrencies and Blockchains To The Average Person. Here to turn the tables on me and ask me questions for this episode is Elaine Zelby, who’s been helping me with Unchained these last few months. Hi Elaine.

Elaine Zelby:

Hi Laura, and thanks for having me on.

Laura Shin:

Oh, well thanks for asking the questions.

Elaine Zelby:

So, I’m really excited you’re doing this episode because I do feel like there are so few resources out there to really on-board people into the world of crypto. So, let’s start at the very beginning, what is bitcoin?

Laura Shin:

So, bitcoin is a number of different things. We can think of it as digital gold, it also functions as digital cash, but the main distinction that I guess it has now is that it’s the first cryptocurrency. Bitcoin is also the first decentralized currency that’s not issued by a central government. It exists outside the traditional banking system, which is pretty unusual because so far, for most of us, for all of us in fact, for all of our lives, the money that we’ve normally dealt with has been issued by a central bank, and this is the first time that we’re really seeing money in the form of software. The other reason that bitcoin is unusual and novel is that it’s really the first scarce digital resource we have, and by that, what I mean is, that previously if we were sending things on the internet, those were typically copies of things, so for instance, if I sent you an MP3, or if I sent you a text message, or a photo, I would also have a copy of that MP3, that text message, or that photo, and so bitcoin was the first time that you could send something, you could send something digital to someone, and once I sent it to you, everybody in the world would know for certain that I no longer have it, and that you now had it, and as we’ve seen, bitcoin has really ushered in kind of a new era, I guess you could say, for the internet where now blockchains are enabling these new digitally scarce objects to exist that, you know, weren’t possible before, and people are calling it sort of like a trust layer for the internet because you can trust that something hasn’t been counterfeited in a way that you couldn’t before, and in that respect, because blockchains will usher in all kinds of new and novel products really on the internet that were simply not possible before, in a way bitcoin is actually the first application for blockchains the same way that email was the first application for the internet.

I think the other thing that I like to think about when it comes to bitcoin, is that it really is a new form of money that is actually also, it also represents progress in the types of money that we’ve had before. So, if before we had seashells and tally sticks and yap stones, and then gold, and more recently paper money, now we have digital money that is more fungible, easily divisible, more transportable, and so one of the CEOs in the space, who’s pretty well known, Wences Casares, the CEO of Xapo, I know that he’s called it the best form of money we’ve ever had, and I actually would say that I agree with him. Although one thing I would add is that since it’s so early in the days of cryptocurrency, it’s hard to know really which of the many different currencies we’re seeing will be winners, so whether or not bitcoin retains its first mover advantage here, it’s too early to tell.

Elaine Zelby:

You mentioned that bitcoin’s the first form of digital money, but when I think about the banking system, isn’t it digital all ready? I mean, I bank online, my credit card is online, I don’t really hold cash.

Laura Shin:

No. So, actually, the interface that you are dealing with is just a digital veneer on a centuries old system called double-entry bookkeeping. In that system, both of the parties that are transacting keep their own ledgers, and then reconcile them, and within that system also, there are many middle-men, so for instance, if you try to send an international wire transfer, and let’s say you’re sending one to me, and you are in Senegal and I’m in Costa Rica, most likely that’s not a very common corridor for people to send international wire transfers through, and so most likely your local bank, and my local bank do not have a direct connection, and so that kind of transaction would actually be passed along through a number of banks, including what’s called correspondent banks, that sort of act as hubs similar to the way that certain airports are hubs that connect then less well trafficked cities, and so here, you know, with bitcoin, you’re actually using the software to make the transfer, and so let’s say again, like you’re in Senegal and I’m in Costa Rica, you and I can just take out our phones, and you can send me some money, you know, bitcoin or another cryptocurrency from your phone, and I can receive it in Costa Rica as well, and that can happen near instantaneously whereas an international wire transfer, for those of you who have experience with them, can take a frustratingly long time, maybe like a week or even more, and they can even get lost, and this has actually happened to me, and so with cryptocurrency, what’s really interesting about them, since all the transactions are recorded on what’s called a blockchain, which is usually a public ledger of all the transactions, the parties that are transacting can actually see where that transaction is, and track it, and depending on which blockchain you’re using, the money can be moved in, for instance, within 10 minutes if you’re using bitcoin or any of the coins that are modeled after bitcoin such as bitcoin cash, or they can move even more quickly such as with Litecoin, which is using what are called block times of two and a half minutes and a block time is basically how long it takes for a transaction to pass from one person to another, and the Ethereum network has an even faster block time of around 15 seconds.

So, this is truly digital, and the reason for that is because the assets themselves are actually digital, and the other thing that’s kind of an advance on the traditional banking system, is that when you’re dealing with cryptocurrencies the fees are known upfront whereas if you do an international wire transfer, you will only find out how much you’ve paid in fees once the recipient finally receives the money, and sees how much has been taken out, and again, I’ve been on the receiving end of this, and have been very frustrated by not knowing, you know, how much to charge basically so that the other person pays the fees. So, this is, I think, a vastly superior system to the traditional banking system, and when I say that, that would apply even to things like PayPal, which seem digital as well, but really are not because they run on the traditional banking system rails.

Elaine Zelby:

Okay. Great. So, we have the first truly digital currency, and you talked a lot about how it moves around, so I want to dive into that a little bit. When you were mentioning bitcoin originally, you talked about blockchain, and these two are talked about typically in tandem. So, can you walk us through what is a blockchain?

Laura Shin:

So, you can think of a blockchain as a big ledger in the sky almost. It’s a ledger that essentially exists in the cloud, and this ledger holds the history of every single transaction since the beginning of the network. So, if you look at the bitcoin blockchain, and go all the way back, you will find the very first transactions that happened in January of 2009, and you will see every transaction since then. The other interesting thing about this ledger is that copies of it are held on computers worldwide. So, this makes it actually quite difficult to change the transactions in the ledger, because in order to do that, you would need to gain control over a huge number of computers to change the version of the ledger that they’re all holding and to kind of change the agreed upon truth that all of these computers are running. This is why often people say that blockchains are tamper proof, and transactions cannot really be reversed. The only way that you can really reverse a bitcoin transaction, is if, so let’s say I send you a bitcoin, the only way to reverse it, is not the way that we would typically do with a credit card where you get a charge back and it’s like the transaction never happened. The only way that I would ever get those bitcoins back from you, or have the transactions reversed, is if you actually sent the money back to me, which is essentially just another transaction, it’s not undoing the previous one.

So, in terms of where this term blockchain came from, a blockchain is called a blockchain because all the transactions are grouped together in blocks, and a block happens in bitcoin at least, every 10 minutes, and as I discussed earlier, on different blockchains, the block time is sometimes shorter, so one block is processed every 10 minutes, and each block is linked to the one before it, and that’s why we call it a blockchain, because it’s essentially a chain of these blocks that contain the most recent transactions, and within each block, you’ve got, you know, all this data, like all of these transactions that have happened in the last 10 minutes, and in order to give each block a unique identifier, you do what’s called, you run a hash on it, which is, you put it through this algorithm that then creates a unique identifier, and if you were to change one tiny data point in that group of transactions, then the hash you would get is going to be wildly different, and so even if you change like a decimal point, or just a single digit, you would just end up with a completely different hash, and the way that you link all these different blocks together, is that each block actually contains the hash of the previous block, which as I said before, is a data point where if you changed any part of it, then that would cause that block to have a wildly different hash.

So, that’s why, even if somebody were to gain control of a whole number of these computers that are running the bitcoin software, to try to change the history of the ledger, they would have a really hard time changing anything more than kind of the most recent transactions, because you would kind of need to undo each block, you know, it’s not something where you can just kind of like undo the whole thing all at once, because each block contains data from the block before it, and so that’s why everybody always says, like this is quite secure, and it’s very difficult to counterfeit. Yeah. So that’s how a blockchain works.

Elaine Zelby:

Awesome. So, blockchains storing the records of all of this movement of bitcoin, but how are the bitcoins created in the first place? How do we get them in existence, and how many are there?

Laura Shin:

So, the bitcoins are created through this process called mining, and they are essentially released by the software with each new block, and at the time that bitcoin was first launched, the software was releasing 50 new bitcoins with every block, and then every four years now, the bitcoin software underdoes what’s called a halving event, where that figure of the block reward, which is the number of bitcoins that are released in any given block, gets halved, and so after four years, the software began releasing 25 bitcoins, and then in the summer of 2016, we had another halving event, and so now the number of bitcoins being released every 10 minutes is 12.5 bitcoins, and the people who get those new bitcoins are what are called miners in the bitcoin network, and these people are essentially the people, or the entities, because actually a lot of these entities are now corporations, but they are essentially securing the network you can say, or they’re running the network, and the reason that the block reward exists is to incentivize them to run the network, and what’s really interesting is that the more computer power you put on the network, the more likely it is you’ll win more bitcoins. Like, over time, the amount you’ll win is sort of proportional to the amount of computer power that you have on the network, and at the same time, the amount of computer power on the network, is also what keeps it secure, right, because the more computer power that is on the network, the more difficult it is to attack the network, and so, it’s a pretty neat kind of circular mechanism by which the software is being kept secure, you know, you incentivize these people to try to win the bitcoins, but when they do so, they’re protecting the software and keeping it from being vulnerable to attack.

One other thing that I want to add here, is that what determines whether or not a particular miner wins those bitcoins is, there’s kind of like basically a math problem that happens with each new block, and so the computers on the network are all racing to try to solve that first, and whoever solves it first, will win the bitcoin, and anyone who wanted to attack the network would need to amass at least 51 percent of the computer power on the network, and that would enable them to win the competition at least 51 percent of the time, which would perhaps give them the power to change the ledger, but as I mentioned earlier, that would really only give them the power to change probably maybe the most recent block, depending on how much power they had, perhaps the block before it, but it would be pretty limited in terms of what they could do.

Elaine Zelby:

It sounds like a very interesting alignment of incentive there, ______00:15:48. Let’s move on from bitcoin and talk about another major concept in this space which is Ethereum. Can you break that down for us, and tell us what is Ethereum, and how does it work?

Laura Shin:

So, if bitcoin introduced this concept of using technology to send money directly from one person to another, rather than going through a bank, Ethereum goes a step further. It brings us this concept of using software to replace middlemen for all kinds of services and the way they do that it is, by providing this platform for what are called smart contracts, and that’s essentially software that is like programmable money, so one of the examples, and this is a pretty simple one, is you can think of using Ethereum to, for instance, send your child, let’s say maybe they’re in college or something, to send them maybe it’s like 10 Ether every time their account balance falls below five Ether, or something like that, and it’s not something that you would have to manage, and it’s not, like I said earlier, something that’s just a digital veneer on actually the traditional banking system, this would be something done through your phone, and actually I wanted to just draw the contrast with Venmo, which many people perceive as being done through the phone as well, but Venmo is just moving money from your bank account to another person’s banking account, so again, that’s different, this is using a ______00:17:20 asset and moving the money to peer to peer.

So, some other more complex examples of things that you could do with a platform like Ethereum are, you could, imagine using a smart contract for escrow services. Let’s say that you’re in the process of purchasing a house, typically there’s a trusted third party that you use to hold the money while you make sure that you can obtain the deed and then that person will facilitate that transaction and be the trusted third party so that the buyer and seller don’t have to worry, like what if I hand over the money and don’t get the deed, or what if I hand over the deed and don’t get the money, and here, you could actually use the software to instead facilitate that transaction and be the trust layer between the two people, so the middleman is not needed, and the more that this gets built out, the more infrastructure that we have in place, you could eventually see someday software replacing all kinds of middlemen for services that are widely used today. So, for instance, you could imagine a sort of eBay without an eBay at the center, just a huge decentralized network of buyers and sellers that are using this trust layer, like I said, on the internet, to directly interact with each other, and instead of having this middleman at the center take a cut of every transaction, people are just dealing directly with each other.

You could also imagine that such smart contracts could be used in combination with the internet of things to, for instance, power a taxi fleet, such as an Uber that can bring you a car on demand and you can pay it automatically, and not have this third party either facilitate that transaction, or take a cut of it, and so, there’s a lot of interesting things that are being built on Ethereum in that fashion, including some peer-to-peer trading we’re already seeing recently in something called CryptoKitties, which sort of combines a couple of really new and interesting things that have only been possible now with blockchain technology, which are to have digital collectibles, because of what I mentioned earlier about how now with a blockchain you can create a unique digital item that cannot be copied, and at the same time, people are very easily trading them because now you have Ether in which people can transact peer-to-peer.

Elaine Zelby:

We’re going to get to ICOs and Bubbles, but first let’s take a quick break to talk about our fabulous sponsor, Onramp.

Laura Shin:

If you’re starting up a new project or need some design or branding help on an existing one, Onramp has you covered. Onramp is a full-service creative agency that has helped numerous companies, including many in a crypto space maximize their brand awareness, gain traction, and accelerate growth. Onramp has a passion for assisting brands and boosting business results and can help with everything from website and logo design, to social and content strategy. Focus on your core technology and leave the rest to Onramp. To learn more and see how they’ve helped passionate entrepreneurs achieve their dreams, go to thinkonramp.com. I’m speaking with Elaine Zelby who is asking me questions for our special Crypto 101 episode.

Elaine Zelby:

Okay Laura let’s get into some really interesting topics. First, I want to go into ICOs. Now, what is an ICO?

Laura Shin:

An ICO is an initial coin offering, and the best way to think about that is to imagine that a kick starter and bitcoin had a baby. So, essentially, this is a crowd sale where instead of the product you receive being a sweatshirt, or a pebble watch, or a video game, what you get instead is cryptocurrency or a crypto token, and the reason that these have really taken off in 2017 is that they offer a number of things to both sides of the transaction that were not really possible before. So, from the entrepreneurs side, an ICO, or a token sale, is a way to raise money without having to go through the process of going to venture capital investors in Silicon Valley who most likely are not going to be super interested in your product, and maybe going through the humiliating process of a whole bunch of different presentations, and then at the end not really getting a lot of money.

The other reason that I think a lot of entrepreneurs are interested in this is because this is also a way to seed a network, which is kind of a difficult thing to do, typically for an entrepreneur. If you imagine that you’re creating the new Facebook, or the Twitter, or you know, whatever it is, when you first start it, whoever joins at that moment, they’re not going to get a lot out of it if there aren’t that many people on it, and so what these entrepreneurs often are trying to do is, if they have a token sale, then they can get a lot of people who are interested very early on, and they will draw them in by the promise of saying, hey if you participate early, then if this network takes off, then the value of your token will grow, and on top of that, then now once they’ve sold the tokens to this early investor base, they have these really energized users from the get-go who want to proselytize the network to their friends and family, get more people on it, so they have a natural mechanism for kind of incentivizing their own users to grow the platform, and basically ensure it’s success, and so this is something that’s been appealing to the entrepreneurs.

From the investors side, I think the reason this phenomenon has taken off is because in recent years we’ve seen that a lot of companies have been staying private longer. Typically when they go public, it’s long after the value of the company has already gone up, and so that value now is really accruing primarily to the venture capitalists and the early investors, and so, when now, with this sort of democratizing force of these initial coin offerings, people are saying, hey like I can get in early, and I can participate in the returns that typically were reserved for these wealthier, more privileged elite investors. I think the other reason that people are interested in this, frankly, is that I’ve noticed in general, that the crypto space has caused a lot of the followers to be somewhat religious almost about the space, and they tend to be highly engaged, and part of it might be the financial incentive, but I’ve definitely noticed that the people who get into the space, they tend to have pretty strong beliefs about which coins are good, and which ones are not, and they really want to see their coin succeed and I think part of that is because they’ve essentially put their money where their mouth is, and so, yeah, we’ve definitely seen this phenomenon take off really quickly and I think there’s reasons on both sides for that to have happened.

Elaine Zelby:

It’s been a really fascinating phenomenon to watch too, because once you get people to have skin in the game, it’s kind of like fantasy football where you’re rooting for the teams based on where you’ve put your bets, and I’ve seen people do this and become the amplification getting so many people involved, and everyone’s constantly watching the coins on the exchanges and the other market watch sites. The one thing I’ve seen on these sites, too, is not only are they listing all of the coins and tokens created from ICOs, but you also get things like multiple bitcoin coins, so you have bitcoin, and bitcoin cash and bitcoin gold, how did that happen?

Laura Shin:

So, this is what I meant earlier about people being religious. It’s kind of interesting, people have very, very, very strong opinions about the direction that these open-source networks should go, which actually in a way, I think is really cool too, actually now that I really think about it, you know, if you are a user of Facebook, you’re not sitting around thinking…well okay, that’s not true, you are probably sitting around thinking like, they shouldn’t have done that, or they should do this, but here in this situation where these projects are open-source, people actually have the opportunity to put into effect what they want to see, and so when some members of the community or some developers disagree with the way that the developers of any particular coin are taking that coin, sometimes what they will do, is they will, quote end quote, fork that code, which means they basically take the codebase, and they replicate it but then tweak it to their liking.

So maybe there are certain parameters that they would prefer to have different, and we’ve seen this not only with bitcoin, but also with Ethereum, and what happens, depending on how you do the fork, you can perform it in such a way where at the time of the fork, anybody who holds coins on the original chain…so with bitcoin versus bitcoin cash, on August 1st, which is when bitcoin cash forked off, anybody who held coins on the bitcoin blockchain at that moment, they also now suddenly, had the same number of coins on the bitcoin cash blockchain, and the reason is that the bitcoin cash developers kept the ledger, basically, so the same ledger of all the bitcoin transactions going back to January 2009 is being used for bitcoin cash up until August 1st, at which point that is where the ledger starts to differ, and so that’s how they actually also get a wide distribution for their new coin, because now everybody who has the original cryptocurrency, which has probably the most users out of any of the other cryptocurrencies, now suddenly they have the same number of users. Granted, that number probably changes very quickly because a lot of the bitcoin holders were super angry about the bitcoin cash hard fork and so I believe many of them sold right from the get-go, so obviously the number…the histories of the two blockchains changed pretty much immediately, but that is why you end up with these different, quote end quote, forks.

We also saw the same thing happen with Ethereum, where Ethereum started out and then there was a sort of mistake, I guess you could say, where essentially there was a smart contract that was on the Ethereum platform called the Dow…this is a very long story so I’m not going to go into all the details, but that smart contract had a bug in the code that enabled a thief to steal, I think it was like about 50 million dollars-worth of Ether at that time, and this happened when Ethereum itself, the network, was not even a year old, and the community, and a lot of people had put money into this smart contract, it had raised 150 million dollars, it was essentially kind of like a venture fund, a smart contract acting as a venture fund, and some people had put in like their life savings, and I mean it was just ridiculous, and so what the Ethereum community decided to do was kind of like, roll back, meaning take the ledger back, pretend like this never happened and essentially erase the theft, but some people who really believe in immutabilty aspect of blockchains, vehemently disagreed with this decision, and so at the time of the fork, they bought the, quote end quote, original coins, and what I mean by that is, so what’s called Ethereum now is actually the version that was hard-forked, it was the version that moved off from the original chain, and there are some people who kept going with the original chain, now they call themselves Ethereum classic, and they have a different coin, and the one that is called Ethereum is the one that forked off to erase the theft from the Dow.

Elaine Zelby:

Oh man, this is so fascinating. So much drama, and I’m sure that will continue. One of the other things I know people tend to get semi-religious about is the way that they choose to secure the networks or come to consensus, and two of the main ones I’ve heard about are proof of work, and proof of stake. Can you explain the difference?

Laura Shin:

Yeah. So, proof of work is what is used in bitcoin and proof of stake is what the Ethereum community is probably going to move to at some point in the near future, and the way that you can think of these different mechanisms is, they’re sort of like ways of securing the network. So, with proof of work, the way that that is securing the network is, that requires the computers on the network to put in work to validate transactions. So, earlier when I spoke about, you know, kind of like this competition, and the math problem, you know, you need to put in work with your computer in order to figure out the solution to that math problem, and that, in and of itself, as I explained earlier, that’s what’s securing the blockchain, right, because if some nefarious actor wants to do something to the blockchain, they also have to put in work, and in fact, they have to put in more work than the good actors in order to do whatever it is that they want to do, and so as you can see, this sort of leads to this like, arms race, right, because you’re trying to get better equipment, faster equipment, put on more mining equipment onto the network, and so it’s pretty energy intensive.

What some of the proof of stake coins are doing, and what Ethereum intends to do, is to switch to a method that is less energy intensive, and what’s interesting about this is that it also sort of like switches the vector of attack, so instead of needing to amass a large amount of computer power in their network, what you need to do, is amass a large amount of coins, and in the Ethereum proof of stake system, the entities who will be adding new blocks, they will be called validators instead of miners, and the frequency with which they will add new blocks is determined by the proportion of coins they’ve put up as stake, or that they’ve sort of like bonded to the system, and that sort of represents kind of like a certain level of commitment to the Ethereum system, and so if you think about trying to attack in this environment, instead of trying to put a whole bunch of computer power in the network, instead you would need to amass a huge amount of coins, like 51 percent of the coins, and what’s interesting there is, again, crypto economics come into play to also help protect the network, because if you’re going to amass all those coins to, quote end quote, attack the network, then the second that you do it, the value of the coins you’ve just amassed will drop, and so you’re financial incentive to attack the network is then gone, and you’ve just wasted that money.

Elaine Zelby:

Interesting. Let’s shift gears a bit and talk about exchanges. So, I’ve seen a ton of exchanges popping up all over. How do they work, and why do I see some coins listed on certain exchanges and not others, and some don’t contain the entire list of all coins and tokens?

Laura Shin:

So, exchanges are more like what we’re familiar with from the traditional financial system in that they are centralized entities, they are not doing, you know, peer to peer transactions, they are not conducting transactions on the blockchains, they can interact with blockchains, so for instance if you buy some bitcoin on Coinbase and you want to move it to your own personal wallet, then at that point, Coinbase will interact with the bitcoin blockchains so that, you know, your coins will end up back on the blockchain in your control, you will then manage your own private keys, but typically on an exchange, let’s say that both you and I are used as a Coinbase, what will happen is that Coinbase will use its own internal ledgers to conduct the transactions, and so for instance, right now, there’s pretty high fees on the bitcoin network, and so if you and I are both used to the Coinbase, then we can actually avoid those fees if we just send money to each other through Coinbase itself.

Now, the reason that the exchange is different in terms of what they offer for coins, a lot of it probably is due to regulatory issues, and this is actually something I haven’t really discussed at length with the exchanges themselves, so I’m just kind of extrapolating from what I know about this base, but because they are domicile and in different jurisdictions, they probably have different regulations that apply to them. Some of them have also, even if they are domicile and in the same place, they have chosen different regulatory routes to be compliant, so there are different licenses you can get, or different, just sort of different paths to be compliant, and so depending on which way you’ve gone, you might need to follow one certain set of regulations that would cause you to list some coins versus others.

The other thing that I would say here is that, you know, in general I think, because it is sort of a wild west right now, but as the space is taking off, everyone is quite aware that regulation is coming. I think a lot of these exchanges do carefully look at regulations to understand what could get them in trouble, basically, and for those maybe that weren’t so careful about it, they  now are being much more careful because the SEC finally last summer did come out with a report that began to kind of draw the lines around what would constitute, or what kind of token would be considered a security and therefore would require an exchange to register with the SEC. We have actually seen one exchange come out with a really comprehensive framework for kind of outlining basically how they would think about whether or not to list a new token, and that was GDAX, the global digital asset exchange, which is part of Coinbase, and if you look at that framework, it’s actually really comprehensive and in my opinion, actually just a really smart way to think about tokens in general, not just for the purposes of an exchange, but they look at factors such as the strength of the team, the ______00:36:36 structure of the coin, the security of the code itself, how centralized this token is, you know, like meaning the distribution of it, the liquidity, the demand from users, I mean, there’s all kinds of factors, it was actually pretty long and thorough document.

So, I think now we are seeing a lot of exchanges being really thoughtful about it after the Dow report came out from SEC. We did see some exchanges de-list certain tokens, and the SEC in that report sort of gave a little bit of a warning because essentially they said, you know, anybody who had listed the Dow tokens would’ve been in violation of securities laws because they would’ve been listing an unregistered security, and so I think people are on notice, and they’re pretty aware and cautious now about what they list.

Elaine Zelby:

So, coming back to this being kind of the wild west world we’re in right now, let’s take a different definition of security and talk about the actual security of all this money and assets being transferred. In my mind, one of the main concepts behind everything running on blockchain technology is trying to solve for security, but we keep hearing over and over again in the news about hacks. So why does that keep happening, and is this really secure?

Laura Shin:

The reason that this is happening is because this is really a new form of money. It’s not the kind of money that people are used to dealing with, and for that reason there are a whole new set of security processes that people need to learn in order to handle this money safely, and it really is kind of the polar opposite of the traditional banking system as I mentioned earlier, where you can’t, if you lose your private keys, there’s no bank to call to be like, hey I forgot my password, you know, I want to create a new password, like that does not happen, right? On top of that, people are often buying this stuff without really even understanding how it works, and so this is just a new system where essentially anytime you have a bitcoin, you kind of get like two things with it, you get what’s known as a public address, which you can think of as a sort of like a mailbox, where anybody can put bitcoins into your mailbox now, and the other thing that you get is private keys to that address, and that is what enables you to send money out of that address, and the only thing that enables anybody to send money out of that address is possession of those private keys. So, if you lose those private keys, and they’re just gone, not that anybody’s stolen them from you, but like you just lost them, like maybe they got burned up in a fire or something, then nobody will be able to send out the money from that address.

Similarly, if the private keys are stolen from you, then whoever has possession of those private keys, they can now send money out of that address and most likely what they will do is send that money into their address, and so there’s a lot of infrastructure that needs to be built really, to enable people to handle this in a secure way, and it’s simply not been built yet really. What a lot of people are doing now, is actually just trying to manage their private keys in a way that sort of divorces it from what has made crypto currency really interesting so far, which is the fact that it’s digital, and so what a lot of people do is they actually store their private keys on paper, or on devices that are not connected to the internet, that is called air gapping, and so if you have a, quote end quote, air gapped device, which is something that’s never touched the internet, that is a way to protect yourself from having somebody steal them, and yet then, you have this problem of having this physical device that somebody can physically steal. So, then you’ve got people that are dividing up the string of letters and numbers that make up their private keys amongst different devices and then storing all of those in different geographic locations.

You’ve also got people who then, in a very ironic twist, are storing their private keys in safety deposit boxes at banks, and you know, with all the difficulty of kind of managing, you know, physical possessions that hold large amounts of money, you have a lot of tales of people who lose huge amounts of money because they toss out, you know, the piece of paper holding their private key or they toss out the hard drive storing their private keys. In the news you might’ve seen there was a guy who lost a bunch of bitcoins on a hard drive that he accidentally tossed out a number of years ago, and just recently, because the price has gone up so much, he actually was trying to get permission to go through this huge landfill to try to find it, and so, you know, its early days, a lot of infrastructure hasn’t been built out.

There are some new ways that companies have been implementing to help people secure their keys, such as things like multisig transactions, which are where in order to facilitate, or in order to initiate a transaction, you need for instance, two of three signatures, or three of five, and that is actually quite a good way because the other thing about that is that, then that protects any single individual. You may have also heard in the news, there was somebody who was held at gunpoint to hand over 1.8 million dollars-worth of Ether, and so if you do something like a multisig then, you know, you can’t actually physically threaten somebody because then you would need to get everybody who’s on that multisig transaction to be physically threatened in order to actually get the money. The other thing that I think that’s happening a lot is that people are buying without really knowing what they’re buying, and that makes it very, very easy for them to be phished, and what I mean by that is, you know, they’re sent some kind of link and they click on the link and give away their private keys, not realizing what they’ve done, and often there what we see is, that the phishers are super smart and they send messages that are like, very well disguised, you know, it’s like, hey we’re the team from X project, and we’re doing a second sale but it’s only for the next hour, buy right now, and people are like, oh I want to get in right now, and they give away their private keys, and so often, what they do is create some sense of urgency that makes people forget all the security lessons that they might’ve learned, because I’ve spoken with people who’ve said, oh I’m so embarrassed because I know what you’re supposed to do, but my greed got the best of me and I forgot and I just clicked, you know, and put in my private keys because I wanted to get these tokens, so unfortunately a lot of that’s going on.

Elaine Zelby:

The craziest is, the stories have become so mainstream now that even my mom called me and started asking if I had heard about the guy who’s going through the dumpsters trying to find this old computer that has millions of dollars-worth of bitcoin, and my mom knows nothing about this, so it’s just a crazy time right now.

Laura Shin:

Yeah. Actually there was one thing I wanted to add that I forgot about, which is, I had written a big story last year, and I’ve spoken about this before in the podcast so hopefully my listeners are aware about it, but the other thing is that, our phone carriers are not aware of how important our phone can be to our financial security, and so sometimes what the hackers are doing is, let’s say that you are on Sprint, they’ll call up T-Mobile, and they’ll be like, hey T-Mobile, I’m Elaine, I want to move my phone over to T-Mobile, T-Mobile will call Sprint, they’ll move your number over now to, let’s say I’m your hacker, they’ll move your number over to my phone, and then I go to like Coinbase and I type in your e-mail address and click forgot password, and then it sends a code to my phone and then I can change your password, I can move your bitcoins, I can do whatever I want with your money, I can get into your e-mail this way, I can get into your Twitter, you know, there’s just so many things that these hackers can do with your phone number which is why a lot of people in the crypto space, and if you are new to the crypto space, this is something you should be very aware of, literally these hackers will go after even just like a few thousand dollars if they see anybody tweeting about owning bitcoin, they will target that person.

We saw this with, there was a media post that went viral, this person lost 8 thousand dollars-worth of bitcoin, and you know, in my story I wrote about somebody who lost millions of dollars-worth of bitcoin, and you know, they will go after whatever it is that they can find because obviously the value of these cryptocurrencies is going up, so even if it’s a small amount at the time, it could be a greater amount later on, and the phone companies, frankly, when I was reporting that story, it was very obvious they had totally ignored all the complaints they had gotten about this, and it was only when I started digging around that they seemed to actually care and to start helping these people, and you know, I haven’t seen much improvement in that regard unfortunately, because there are still people who are being targeted this way and losing money this way. So if you are new to the crypto space, I would counsel you to not do what’s called two factor identification through your phone number, it should be to an application such as google authenticator or a YubiKey, which is kind of like a physical device that can authenticate you, and essentially, basically just do not ______00:46:42 your security, especially for your email, your crypto accounts, and any financial accounts or any other accounts that contain sensitive information such as Dropbox, Evernote or anything like that, you know, your iCloud, do not connect the security of those to your phone number.

Elaine Zelby:

That’s terrifying, especially when you think about the fact that even a highly educated person who follows typically relatively good security protocols could easily be subject to attack with that.

Laura Shin:

Oh yeah. Yeah. There were a lot of very high profile people who were extremely successful in life who lost a lot of money that way, you know, because the phone companies, they are not aware of the fact that your phone number is now used to secure most of your digital life, or if they are aware, they don’t make it a priority to protect it.

Elaine Zelby:

I want to go back to one of your previous points on the fact that most people right now, don’t really know what they’re getting into, and don’t really know what they’re buying. So, I have to ask the question that I know is in most people’s heads right now, and is this all a bubble?

Laura Shin:

So, I wouldn’t say the whole thing is a bubble. Obviously, the technology represents some kind of breakthrough, and I do think that some new progress and a lot of new advances in technology in new, cool products and applications will emerge from this, but definitely as of late, I would say there’s a lot of people who are getting in who do not understand at all how the technology works. They’re buying simply because the price has gone up and they just know they’re neighbor, or their friend, or their, you know, third uncle once removed, or whatever it is, that those people have made money on it, and they’re like, oh I have to get in, I’ve got to buy before, you know, I want to get rich, and it’s just, first of all, if any of you have done that, I would say, learn what it is that you’ve bought, you know, you really should only understand what it is that you’re buying, and fully understand the risks, you know, as we’ve outlined in this episode, there are a number of risks, I didn’t even actually…when we talked about security, I didn’t even talk about the hacks at exchanges, which have been huge, like Mt. Gox lost, I think it was like half a billion bitcoins, which is, that’s insane.

Elaine Zelby:

That’s worth a lot of money now.

Laura Shin:

Yes. And like I said, the security of these things hasn’t been figured out. If you don’t understand what you’re buying then you could very easily also lose your coins if you don’t know how to secure them, you don’t understand how it works, and the other thing about buying something that you don’t understand how it works is like, you know, why buy it then? Like, if you don’t really understand what could make the value of it go up, like what makes it a good investment, then there’s just, I really don’t understand why you would have bought it because maybe you’ve just bought into a massive ponzi scheme and you didn’t know it, like you really, you know, you should understand the technology. So what I feel like I’ve seen, or what I’m seeing right now, is that obviously there are people who are participating in this new financial ecosystem that do understand it, and many of those are kind of like the early, the libertarians from the early days, or the silicon valley technologists who learned about it and really thought it represented something new and a new breakthrough, and wanted to participate and have also helped grow this ecosystem, and so there’s some measure of demand in this space that comes from knowledge of what it represents. But then there is this other demand that comes from people just seeing, oh my god the price has gone up and I can make money, and that is a terrible reason to do anything in life, and like I said before, if that is how you are operating, then you should be totally prepared to lose your shirts, and for people who do understand what it is that they’ve bought, they have gone in knowing just how much they could lose, or how they could lose it, and so therefore they are putting in probably what is an appropriate amount of money.

The other thing I would say, is that, in terms of whether or not this is a bubble, there is obviously a certain amount of technology that’s being developed, or software that’s being developed, or projects being developed that do represent new advances and will probably bring about lasting change, and be widely used at some point, but there’s definitely also a certain portion of entrepreneurs and developers in this space who are just trying to get in now while every average Joe and average Jean are just throwing their money at anything that has the word blockchain in it. So for that reason, you should also be careful if you want to put money in this space, because there are a lot of unscrupulous actors right now who are trying to just capitalize on the frenzy, and really don’t care about building anything that will last, and really don’t care about being fiduciaries with the money that you’ve given them, or maybe fiduciary isn’t the word, but just, they don’t care about actually taking your investment and trying to provide you a nice return, they just care about taking the money that you’ve given them and buying a Lambo, so…

Elaine Zelby:

Well, and there’s also different classifications between all of these investments. There’s tokenized securities, there’s utility tokens, there’s alt coins. Can you explain the difference between these classifications?

Laura Shin:

Yeah. So, a tokenized security is not that different from what we would consider like a stock, or some other form of equity that we’re familiar with from the traditional financial system, but what makes it different is that it comes in token form, and so it can be more easily traded, and particularly if it’s, you know, maybe if it represents like equity from a private investment, then that is something that in the traditional financial system would probably come with some sort of lock up period, such as an investment in a venture fund, but here, you can have a tokenized share of a venture fund that you can easily trade and probably without the lock up period, and there is a token that we have seen like that, in fact there’s actually more than one, but the first one was called bcap token for blockchain capital, and it was a portion of their third fund that was tokenized, I think they raised 50 million and did 10 million in these security tokens basically, and because they were security tokens, they did register those with the SEC and only sold them to accredited investors, which are wealthy investors, and so the benefit to those investors is that then they could sell them on the secondary markets and didn’t have to hold onto them for the lock up period.

So, utility token is different, and it’s something I think that is more kind of interesting, frankly, and takes advantage more of the unique capabilities offered with blockchain technology, and typically they offer a particular function within the little mini-economy that has been built around the token, so for instance, with the Ethereum platform, ether, which is the token, is used to power the smart contracts on the Ethereum platform. Another example would be Filecoin, which is a peer-to-peer network for file storage, and you can use Filecoin for instance, to pay for storage from somebody also in the network, or there’s another network, Golem, where you use the GNT token to pay, or pay for, or sell computing cycles if you’re, let’s say, you know, at night when you go to sleep you can offer up your computer on the network, and then other people can use the computing power on your network for work that they’re doing.

The last kind of, I guess you would say category here, or well there’s really two more, so another one is what they call an AppCoin, and those tend to be a little bit more consumer facing. Some of the utility tokens are more what’s called like, protocol tokens, where those happen more at the infrastructure layer, whereas AppCoins are things that maybe down the future as infrastructure gets built out, you, or average consumers, will be using, just you know, to interact with businesses directly, or to interact with each other, and those are ones that will be more consumer facing. The last category that I would mention is just Altcoins, which are typically coins that are just tweaked slightly from an earlier coin, which is usually bitcoin, and the most successful Altcoin is Litecoin, which as I mentioned before, is it has faster block times, it’s less energy intensive, and it is often called the silver to bitcoin’s gold. So, Altcoins usually aren’t that different from bitcoin in the sense that they typically act like currencies and there’s just certain parameters around the way they work that have been tweaked.

Elaine Zelby:

So, I know we’re running out of time today, but I want to end on kind of a fun note, so one last question for you. Why do people keep talking about hodling?

Laura Shin:

So, this is a fun kind of like inside joke in the bitcoin world, or the crypto world, and it comes from a drunken bitcoin talk forum post a few years ago, and the reason for this expression, hodle, is that often people in the crypto space talk about holding your coins, and the reason for that is that bitcoin, which was the original cryptocurrency, was structured to be deflationary, meaning there would only ever be 21 million bitcoins, and so as time goes on, and demand for these goes up, presumably the value of each individual one will go up, which is in contrast to most fiat money issued by central banks, which tend to be inflationary. So the expression is to just hold and the value of your holding will go up, but this person was extremely drunk when they typed their post about hodling, I think they were super upset that they had not held onto their coins, and they had sold, and then because the price had gone up they missed out on a bunch of gains, and so now everybody just loves that post and which now they all talk about hodling.

Elaine Zelby:

That’s a great story. Now we all feel like insiders. Laura this has been such a great episode, thank you so much for giving such a comprehensive overview of all the Crypto 101 concepts.

Laura Shin:

Great. Well thank you for asking the questions. Thanks everyone for joining today’s special bonus Crypto 101 episode. To find previous episodes of this show with other innovators in the blockchain and crypto space, check out my forums page, Forbes.com/sites/laurashin. Also, be sure to follow me on Twitter @laurashin. New episodes of Unchained come out every other Tuesday, if you haven’t already, please rate, review, and subscribe on iTunes, or wherever you get your podcasts. If you liked this episode, share it with your friends on Facebook, Twitter, or LinkedIn. Unchained is produced by me, Laura Shin, with help from Elaine Zelby and Fractal Recording. Thanks for listening.